Author: Chuck Saletta | January 10, 2019
Use this retirement account to its full advantage
Your 401(k) can be among the most powerful wealth-building tools at your disposal. Between the fact that it gets funded automatically from your paycheck and the fact that it compounds tax advantaged on your behalf, it can enable you to reach millionaire status by retirement.
Still, a key challenge with your 401(k) is that because it’s automatic, it can be easy to forget about it. With the new year just getting started, now is an excellent time to take a look at your 401(k) and make these seven smart moves with it.
No. 1: Raise your contribution
As the calendar shifted into 2019, the amount you’re eligible to contribute increased as well. For those under age 50, the standard limit increased to $19,000. For those aged 50 and up, you also get the ability to make an additional $6,000 per year "catch up" contribution that brings the typical limit to $25,000.
No matter what your age, that money can compound tax deferred on your behalf. In addition, it can either help lower your tax burden today in a traditional 401(k) or allow you to take it and its growth out completely tax free in retirement in a Roth 401(k). Even if you can’t get up to the maximum allowed contribution, any increase you can make will put you on a better path to either reach retirement faster or better support your lifestyle once you are retired.
No. 2: Check where your match is going and move it if necessary
One of the best features of many 401(k) plans is the company match -- money your employer puts towards your account as long as you’re funding something there yourself. While your employer’s generosity can help you reach your retirement faster than you could on your own, the match money may not automatically go where you want it.
Often times, company matches go towards company stock. While it may be a great company to work for and to own, it’s particularly dangerous to have too much of your retirement tied up in the company that employs you. After all, if it runs into trouble, you could wind up without a job and without your retirement savings in one fell swoop.
Whether the match is made in company stock or made to a different fund within your account that’s not in line with your objectives and needs, now is a great time to check where it is and move it if necessary.
No. 3: Adjust your overall allocation
As your retirement approaches, you should start shifting a portion of your assets out of stocks to assure you have cash available when you need to spend it. If you’ve already begun shifting assets out of stocks, the market’s recent downtrend may have left you with a higher bond allocation than you really wanted. In that case, it may make sense to boost your stock allocation to get you back to your target.
On the flip side, if you haven’t begun shifting assets out of stocks, that same downtrend should have helped convince you why such a move is necessary as you start looking to spend from your assets. Either way, now is a great time to check up on your stock vs. bond mix and make any adjustments you need to get it back where you want it to be based on your life stage, risk tolerance, and spending needs.
No. 4: Make sure new money is going where it can do you the most good
In addition to adjusting your existing portfolio allocation, now is a great time to consider where your new contributions are going as well. In addition to the need to make sure you’re allocating appropriately based on your life stage, many plans change their available funds at the beginning of the year. If a fund you had been contributing to is no longer available, the default replacement fund may not be where you want your money to go.
Often that default is a money market fund designed more to be a shorter term holding spot rather than a longer term investment. If you don’t pick an option with better long-run return potential, you risk missing out on the long-term growth of stocks or the better-than-cash inflation-fighting ability of high quality bonds.
No. 5: Consider the Roth 401(k) option if it’s available to you
In recent years, many companies have begun offering Roth-style 401(k) plans. In these plans, you contribute after-tax money, the money grows tax-deferred within the plan, and you can take the money out tax free in retirement. By contrast, in a traditional-style 401(k) plan, you contribute pre-tax money, the money grows tax-deferred within the plan, and you pay ordinary income taxes when you withdraw it in retirement. The Roth-style option is worth considering if any of the following apply to you:
- You’d be able to max out your contributions to a
- You have decades
of compounding ahead of you before you need to tap the money.
- You’re in a relatively low tax bracket today and
expect higher taxes in the future.
- You’re worried about
the impact of RMDs on your costs in retirement and want to
eventually take advantage of the easy conversion from a Roth 401(k) to a Roth
- You view your retirement nest egg as the basis
of your children's inheritance.
No. 6: Make sure you’re getting your entire match
If your employer matches your 401(k) contribution, be sure you’re contributing enough to get your full match. Not only do you need to contribute enough to get that match, but the timing of your contributions may matter, too. Depending on your employer’s matching rules, putting money in too fast could potentially lead to a situation where you don’t get your full match, even if you max out your overall contribution.
Your match helps your retirement nest egg grow all that much faster, and it represents money your employer is willing to pay to you on your behalf to improve your future. If you wouldn’t turn down a raise, you shouldn’t turn down a match, either. Still, a match is something you have to actively contribute to your 401(k) in order to get, so make sure you’re contributing enough and on the right timing to get all you can from yours.
No. 7: Check your fees -- and switch to cheaper options if possible
Many 401(k) plans charge participants fees. In addition, most funds within those plans also have fees. Still, you likely have investment options within your plan that are lower cost than others. Index funds, for instance, frequently have lower fees yet outperform actively managed funds with the same objectives. If you have the opportunity to lower your costs while still getting comparable (or even potentially better) performance, now’s a great time to make the moves.
If your overall costs are outrageous, and there’s no hope for lower cost options, check to see if your plan allows you to take in-service withdrawals. If so, you can roll a portion of your money to an IRA at a discount broker and invest in low-cost funds there. That way, you can take advantage of any matches and the higher contribution levels allowed in your 401(k) but still enable your money to compound efficiently on your behalf.
Make 2019 the year you get the most out of your 401(k)
Your 401(k) is likely the most powerful retirement savings tool available to you. By getting started making these seven smart 401(k) moves today, you can improve your chances of maximizing the value you get from that plan when it comes time for you to retire. A million dollar retirement may still be in your reach, and the sooner you get started working towards it, the better your chances of reaching it.
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