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3 Signs Your 401(k) Plan Stinks -- and What to Do About It

By Maurie Backman – Sep 28, 2020 at 7:18AM

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If your 401(k) isn't cutting it, you may want to explore alternative savings options. Here's how to know if your plan is a dud.

You'll often hear that saving for retirement independently is important, because Social Security won't provide enough income for you to cover your bills without outside savings. You'll also probably hear if you're offered a 401(k) plan through work, you should enroll. Employer-sponsored 401(k)s make retirement savings easy: You sign up to have a certain portion of your income deducted from your paychecks regularly, and you may, if you're lucky, get a company match that puts extra money into your plan.

But not all 401(k) plans are created equal, and if yours is lousy, then saving in it could actually derail your long-term goals. Here are a few signs that you're better off dumping your 401(k) and finding a different home for your money.

401k in gold block letters on a wooden surface

Image source: Getty Images.

1. You don't have many investment options

You'll typically find around a dozen funds to invest in with a 401(k), but some plans offer much fewer choices. If your 401(k) only offers a handful of funds and they don't align with your investing strategy, then you could get stuck in a scenario where you risk needless losses or you stunt your savings' growth. Neither is good.

2. The fees are too high

There are two types of fees you'll pay in your 401(k): investment fees and administrative fees. The former will depend on the specific funds you choose and their respective expense ratios, while the latter is a function of what your plan charges for the benefit of being part of it. If your 401(k)'s administrative fees exceed the 1% mark, it's a sign that you're being charged way too much. Often, larger companies are able to offer lower fees because they get a break for having so many participants, but be especially cognizant of fees if you work for a smaller company that sponsors a 401(k).

3. You're subject to a long vesting schedule

The money you contribute to your 401(k) out of your own paychecks is yours to keep no matter what. But the money your employer contributes on your behalf may not be yours for a pretty long time -- it'll all depend on your vesting schedule. While a one- to three-year vesting schedule is pretty common and not all that unreasonable, a vesting schedule of five years or more should potentially raise a red flag.

What to do if your 401(k) doesn't cut it

If you come to the realization that your 401(k) plan just plain stinks, then there's a reasonable alternative: Fund an IRA instead. You can open one at most financial institutions (in person or even online), and from there, you may find that you have a lot more control over your retirement savings. IRAs typically offer a lot more investment choices than 401(k)s, and their fees are substantially lower.

Of course, there are a few downsides to an IRA. First, their annual contribution limits are much lower than what 401(k)s allow for. Currently, IRAs max out at $6,000 a year for workers under 50 and $7,000 for those 50 and over, whereas 401(k)s max out at $19,500 and $26,000, respectively. Also, with an IRA, there's no employer match to enjoy, and you'll need to either remember to fund your account each pay period, or find an account that offers an automatic transfer. But if you're not happy with your 401(k), there's no reason to stick with a bad plan, especially if forces you to lose money via high fees and bad investments. At the very least, it pays to explore your IRA options before resigning yourself to a 401(k) that really isn't likely to help you achieve your retirement savings goals.

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