Is your 401(k) plan awesome or less awesome?
If you work for a company that offers it's employees a 401(k) pre-tax retirement savings account, then you know that you are responsible for managing the account. There's four things you should look at to make sure your not missing out, or paying too much in fees.
Matching
First, does your employer "match" any of your contributions? If so, you should be contributing the right amount so you get all of the match. It's free money! Don't miss out. Here's an example of what you should do.
If your employer says they will match 3% of your contributions, then you need to know exactly the terms of the match and if there is any limit to the match. If they are going to match 3% of your annual salary, then that's a straight forward calculation. Let's say your annual salary is $120,000, then you would contribute $3,600 and your employer would match that contribution and they would contribute $3,600 as well. However, many employers will cap the total amount of the contribution, say they will only contribute a maximum of $3,000.
There is also a total dollar amount that you are allowed to contribute to all of the individual retirement accounts that you hold. One nice thing is that your employers contribution does not count towards this limit. But the overall amount that is contributed by you and your employer (for the year 2020) can't exceed $57,000 (or 100% of salary, whichever is less). And, you part of the contribution can't exceed $19,500 or $26,000 if you are age 50 and older. Yep, it can be complicated, and these limitations have been known to change from year to year.
What if my employer doesn't match?
If your employer doesn't match any of the contributions, they you need to determine if it's worth-it to contribute to their plan or set-up your own IRA account.
Why would you want to do this?
If your employers plan is not that great, you may be better off staying away from that plan and setting up your own. You would have many more investment choices, and most likely your fees would be lower. But an analysis of the plan needs to be done so an informed decision can be made. It is worth it to explore this option because we are talking about thousands of dollars you might be able to make elsewhere and or avoiding thousands of dollars in excessive fees. Over three or four decades, were talking about a lot of money. It's not too difficult to set-up an individual IRA account and set up having a percentage of your salary transferred into the account each paycheck. You should pursue this course of action with the advice of a financial advisor, so it's done correctly.
Vesting & Fees
Another thing you want to be aware of is when the employers contributions into your 401(k) are vested. That means you have to wait a number of years (the average is five years) for you to "own" all of the contributions from your employer. Be aware of the vesting period if you plan on changing jobs. The vesting period is a way for the employer to deter you from quitting after a year or two, and to keep you in the plan, because all of the employees in that plan are sharing the cost of the administration and other fees. The more participants in the plan, the less fees per participant. If you work for a smaller company, then you really need to find out about all of the fees in the plan.
Be aware: You are paying those fees, they are being deducted from your account.
The average plan fees range from 0.37% for largest plans to 1.42% for the smallest plans.
Source: Morningstar
Investment choices
It's really a good idea to run an analysis of the investment choices in the plan. Usually your investment choices can be anywhere from twelve to twenty-four mutual funds. This analysis can be hard to do if you have limited investment experience. There are resources that do run comparisons of plans offered by other companies in the same or similar industry. It's a way to, sort-of, compare apples to apples.
You'll want to make sure that your investment choices in your 401(k) plan are made in consideration with your other investments that you hold in other accounts that you own. Hopefully you will also have a Roth IRA account, a brokerage account and perhaps an individual IRA account. A financial advisor can evaluate your 401(k) plan for you, and how the investment choices should be selected so they reflect your investment goals and the amount of risk and volatility you are able or willing to take. That's what I would recommend. It's not an easy task!
Remember, the 401(k) plan is "self-directed" meaning you make the investment choices. The employer cannot make the choices for you.
My final thoughts: it's really important to take the time to know what you should be doing to set yourself up on the right path. Saving for your future should be a number one priority for you. Please seek out advice from an experienced professional. Preferably someone who is a fiduciary.
