When Should You Stop Contributing To Your 401(k)?

If you’ve spent more than 32 seconds listening to any sort of retirement advice, you know we financial planners love us some 401k.  We’re like a broken record on the awesomeness of this tax-deferred savings vehicle.  If a financial planner had written The Princess Bride, the line would have been, “You fell victim to one the two classic blunders, the best known of which is, ‘Never miss a chance to grow your retirement by participating in your employer’s 401k plan.’”

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Screw Pensions, Here's Why You'll Be Just Fine Without It

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Do you ever get tired of your dad telling you how it was better back in the day? Nobody locked their door, kids wore their ball caps with the bill in front, and if you worked hard and stuck with your employer, you got a retirement party, gold watch and a pension.

He’s got a point about that last one.

For much of modern history, many retirees counted on an employee pension to fund their golden years. This life-long monthly reward for years of devoted service was so central to retirement that the British refer to post-career people as “pensioners” and here in the U.S. employs who were eased out of a job a bit early were said to be “pensioned off.”

No more. Private sector pensions have been going out of style since the 1980’s as companies seek ever-greater cost efficiencies. Just one-third of American retirees currently receive a pension, and that figure includes those who worked in the public sector, where pensions are still fairly common. The median private sector pension benefit in 2014 was $9,200 per year. Those vanished pensions have been replaced, in most cases, by an employer-sponsored 401k tax-deferred savings plan, often with the company matching a percentage of employee contributions.

Sucks, right? Well, kinda. Your dad was spot-on about the awesomeness of pensions. They do provide a great sense of stability and security in retirement. Some retirees live an enjoyable retirement on pretty much just their pension and Social Security benefits.

Related: How Much Should I Save If I Want To Spend $100,000 Every Year In Retirement

But don’t get all sad. There are some real advantages to having a 401k instead of a pension.

Job flexibility. You typically need at least 10 years service with an employer to earn pension benefits. This requirement can really limit your career options. Imagine that after nine years with Oscorp, which has a great pension plan, you are offered a dream job at Stark Industries. If you take the new job, your time at Oscorp will net you nothing in retirement. But if you have a 401k at Oscorp, you own the contents of that account and can roll them over to Stark’s even-better 401k plan with no hassle or consequence.

Tax benefits. Those like-clockwork pension payments are fully taxable as soon as they hit your account, so you incur a tax liability every month, whether or not you needed the money at that point. With a 401k, your money is taxed only when it’s withdrawn from the account. If you don’t need to tap the 401K this month, you have no tax obligation.

What’s more, your annual contribution to a 401K is deducted from that year’s taxable income, reducing the government’s bite of your money apple.

Emergency access. You can borrow from your 401k savings if necessary. While never a great idea, this option isn’t available from a pension.

Leftovers for family. Any money left in your 401k at the end of your life goes to your heirs. Pension payments end at your death, or, in some cases, the death of your spouse.

Don’t spend a minute pining for the good old days of pensions. You can generate the same level of retirement income, and have more control over your money by building your own retirement strategy consisting of various income streams, including Social Security, the proceeds from your full-funded 401k, additional savings, and such ancillary money as income from rental property and even a part-time retirement job.

Related: Why Investing In Your 401k Is A No-Brainer

Like all DIY projects, forging your own retirement future takes time and effort, but pays off in the satisfaction of creating something that exactly meets your needs on your terms.

This Is How We Roll - Rolling Over Your 401K After Leaving An Employer

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Ending a relationship is always tough, no matter which party you are.

If you are the person that is actually doing the ending you still feel bad. There were still emotions involved in the relationship.

For the person on the other end, it’s more of a “What?!” type reaction typically.

The last thing thought about during that period of time is what you should do with your stuff at their house or apartment.

That immediate “well, you can have my stuff” reaction sometimes occurs, but more so because it’s a time of a lot of emotions. Not because you actually want to give them anything after all this drama.

Eventually things quiet down, both sides move on, and each person gathers their belongings (typically in a somewhat cordial manner) from each other’s places.

Ending a business relationship can go this way as well. Sometimes the split is mutual, but other times one side is hurt—whether it’s the company because they now have to replace a key employee or the employee because they are now out of a job.

The main difference is that the employee is really the only one that still has belongings at the counterpart’s “house.”

Yeah, I’m talking about a 401k.

 

A quick cost-benefit seesaw

The beauty of a 401k is that they offer tons of benefits. We’ve mentioned a few of these benefits in pervious emails, but let’s recap for a second.

401ks allow you to reduce the amount that Uncle Sam can tax you by the amount that you contribute to your 401k (up to a point:  $17,500 if under 50 and $23,000 if 50 or older).

Your money grows within the 401k tax-free.  You don’t have to pay taxes on any of the money that you put in or that grow within the 401k until we withdraw the funds at 59.5.  This is the earliest we can withdraw funds.

Oh yeah, and sometimes our employer is even kind enough to give us a match or what we like to call, free money!

The benefit of not being taxed on our money and being able to have the money grow tax-deferred greatly outweigh the other benefits and also the costs.

The costs of a 401k tend to go unknown.

A 401k has multiple different costs.  They have the fund costs; which based on the 401k Averages Book for 2012, the average fund cost for small plans (50 participants) was 1.37%.

But we have other costs.  Operating expenses for the 401k have a price, and at times these are passed onto the actual participants.

There are administrative costs.  Running a 401k requires much administration.  Companies have to report information to the government and also have to keep us employees up to date on the plan and our assets.  They also have to make sure our money gets from our paycheck to our plan and is accounted for properly.  This has a cost.

Some companies even participate in revenue share.  What does this mean?  Well, the costs of some of the investments may be increased and part of the increased cost may find its way back into your employer’s pocket.

Oh, and most of the time plans have an investment manager that comes to your office.  Remember that guy who comes to the office randomly?  Sometimes you like him, other times you may stay away.  Whether you utilize his knowledge or not there is a cost for him… and you pay it.

The total cost for these expenses from that same 2012 401k Averages Book was 1.46%.  This was outside of the costs of the underlying investments.

Total costs amount to a little more than 2.8% for the 401k.  That’s not cool, but we must deal with it because the benefits outweigh these costs.

 

When you roll out… actually roll out

We have to remember that the benefits outweigh the costs of a 401k.  When we roll out of the company as an employee, the benefits of the 401k are now gone, but the costs remain.

That’s no fun.

Not only do the costs remain, but our limited number of investment options remain as well.  Yes, there are more than just 20 investment options out in the world.

The world is your oyster in terms of investments when you leave.  You can be free reign, rather than caged to the companies’ options.

Remember the high fund costs associated with 401ks?   Well, we can now control what we pay (and there are definitely lower cost options).  We could find investments options that have 1% less in fees or maybe even more.

What’s the benefit of that?  Well, it can be huge.  Over a 20-year period on $10,000, the benefit stands to be $4,622. Maybe not jaw dropping, but now look at $100,000.   The benefit of gaining one extra percent every year can amount to an extra $46,217.

What about maybe a more realistic example?

Say we have saved $25,000 in our 401k, and it’s time to move on from our current employer.  If we were able to gain one more percent every year due to decreased costs for 20 years, how much do we stand to gain?  Well, pictures are worth a thousand words.

401K chart

 

So when we roll out, we want to be sure everything rolls out with us.

 

How do you roll?

This all sounds good.  We are all rolling out, but it’s not just like gathering our group of friends and rolling into the club 10 deep.

We actually have to rely on our former employer to help us.

When an individual leaves an employer and wants to roll over their 401k, it’s best to contact the number at the top of their most recent statement a couple days after leaving (let everything settle down).

Requesting a direct rollover will allow individuals to have their money roll into an IRA.

What does this mean?  Well, an IRA is very similar to a 401k, with the exception of having an employer and also having different contribution limits.  You still get the tax advantages and also the ability to aggregate all of your old 401ks into one place.

By rolling over 401ks into an IRA, this allows for all the prior 401ks to be in one place, rather than all scattered around at your former employers.  This keeps people from forgetting about money… we don’t want that!

What happens next is crucial.  The company that was holding your 401k will send you a check for the amount that was in your 401k (sometimes you can have them send this to where you opened the IRA).  This check MUST be deposited into your IRA within 60 days of being issued.

If the check is not deposited into the account within 60 days, then you will be forced to pay taxes on the ENTIRE amount.  Again, we don’t want that!

From here it’s time to invest the money!  You can check out our “Own Your Age” (OYA) recommendations to get an idea of how to do this.  OYA

 

Now, this is how we roll

Remember that a 401k is a great benefit when you are employed by the particular employer, but it becomes less awesome when you leave them.

This will help make sure you don’t lose track of money that you have rightfully saved.  It can also lead to some cost savings that may just put you in a better position when you are ready to sip daiquiris on the beach full time!

 

 

 

The Wela Whip - Junior costs how much, Poke me - this can't be real, The wider the better, Faulting on the hard-court

wela whip

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Junior costs HOW MUCH?? In a recent blog and Twitter chat we quantified the cost of having a child through the age of two. The total cost surprised most of us, but it pales in comparison to the amount suggested in the article from The Wall Street Journal that was released this week. It looks as if the WSJ is taking an interest in some of Wela’s material and producing their own. Read on to learn more about what to financially expect when you’re expecting. Read More

Poke me… this can't be real Facebook has now doubled in price since going public in 2012. Despite some recently bad headlines on privacy, Facebook skeptics have quieted. Reports show that in the second quarter of 2014 (April 1st - June 30th), 1.32 billion people logged into Facebook at least once a month from April through June, and 829 million people logged in daily! Those numbers are just silly! Read More

Couple of 401(k) tips While wealth is certainly about more than just money, it never hurts to sprinkle in a few helpful money tips every now and again. The linked blog below addresses four common 401(k) mistakes. Don’t skip this article just because it’s “boring”, it could help save thousands of dollars over the course of your investing career. With the number of job and career changes the workforce today is making, it’s good to remember to stay on top of your old savings vehicles. Read More

The wider the better? Were you born a bit wider… in the head? A recent Wall Street Journal article pointed to a study that said men with wider faces were better negotiators relative to those with narrower faces. However, past studies also say wider faces aren't poised for longer term relationships. Guess you can't have your cake and eat it too! Read More

Faulting on the hard-court I guess bad news tends to come in doubles. Recently, Rory Mcllroy ended his engagement with tennis star Caroline Wozniacki after they had sent out wedding invites. Now, high profile hockey start, Alex Ovechikin's wedding with tennis star Maria Kirilenko has been called off. Note to self… avoid athlete to athlete relationships. Read More

Your 401K - A Ballooning Explanation

Finance topics are to the masses as spiders are to arachnophobia. We just want to stay away from finance. Mainly because it’s too confusing and usually finance stuff is for grown ups… and none of us want to grow up! (I understand!)

Trying to simplify finance is similar to explaining art… because they are both abstract.

With this, I went to the drawing board and tried to draw out a finance topic relevant to many of us… the 401k.

After looking at my drawing, I realized how abstract art really is (and also why I am not an artist, and how much credit should be given to artists).

How I determined to explain a 401k will show just how abstract my drawing was, or maybe just how bad I misinterpreted my own piece of art. (At the bottom of this piece you will see my art come to life!)

Blowing up our savings

A lot can be learned from blowing up a balloon. We can learn a lot about a 401K when we take a look at the process of blowing up and ultimately deflating a balloon.

A balloon is filled with air, while a 401K is filled with mutual funds. To me, air and the makeup of the molecules is difficult to understand… I was awful in chemistry. Mutual funds can be just as difficult to understand to some, but these are what fill up a 401k.

They are investments that help the 401k grow. Check out this infographic on another investment, an ETF, which is very similar to a mutual fund.

If we were to just take one deep breath and try to fill up a balloon, we would be limited to how big the balloon would get. But if we got more people to provide one big breath, we could get an even bigger balloon.

The same can be true for a 401K. We are limited to the amount we can contribute each year, but we can get some additional money added by our employer. This helps our 401K get bigger, faster!

Deflating the balloon

It’s time for retirement. Blowing up the balloon has worn us out, so we stop; this is the same as retiring from the job we love.

Here is the catch.

We must live off the air from the balloon for the rest of our life.

We now have two options: pop the balloon and get all the air out at once, or pierce the balloon and take a little air out over a longer period of time.

When you pop the balloon you will capture the most air, but we will also lose a lot of air during the process. The air that is captured from the balloon must now be used for the rest of our life… ouch! The lost air really hurts us.

Needing money from a 401k is similar. We can take all of it out at once (we have to be 59.5 in order to not incur penalties). But one caveat… just like we were hurt with a lot of lost air in the balloon, we will be hurt with having to pay taxes on the entire amount! This will drastically decrease the amount that we have the ability to utilize for the rest of our life… not the best option.

Option two would be to pierce the balloon. Take small amounts of air out every year and then reseal (work with me here) the balloon.

With a 401k, we can do this and spread out the tax consequences, while letting the money stay within the 401k (which is tax advantageous). We can just take out what we need to live off of every year.

Don’t be a whippersnapper

I’ve experienced it multiple times and it sucks.

I am getting close to finishing blowing up a balloon and someone thinks it will be funny to pop your progress. I had come so far and to see it all pop in front of my eyes by a little whippersnapper is the worst!

Well, with a 401K we have the opportunity to be our own whippersnapper.

The money within a 401K can be taken out before 59.5… WAHOO! Hold on for one second. It comes at a cost. You must pay taxes on the entire amount and then also pay a 10% penalty.

By being foolish and looking to utilize the 401k (retirement funds) for current needs, you become that obnoxious whippersnapper. Young you will make old you very mad.

Don’t be the whippersnapper!

Oh, and about that image I drew… here it is

401K-drawing

 

 

Who Is Wela? Let Us Show You

Want to know more about us and understand how our new suite of online tools can help you toward your financial goals? Watch our interview with Atlanta Tech Edge to learn more.

Here's our blurb on Who We Are. Stay tuned for more about What We Do.

Technology has been an incredible phenomenon throughout our Generation X/Y lives, but recently things have moved to another level. Due to social media and entrepreneurial adventures, we have closed some interesting Supply/Demand gaps. Some examples:

#1 Uber: Empty limos meets needy passengers with poor taxi options #2 Munchery: Sous chefs with free time during the day meets families looking for good meal options delivered to their door. #3 And now….Wela: People with less than $200K who need honest advice meets advisors who have built a technology-focused model to serve these customers.

We're shaking things up in the financial advisor world. If you’re 30 or 35, you have financial questions. How will you get them answered?

Maybe you’ll call the Northwestern Mutual insurance agent that’s been bugging you since college. Doubt it.

Maybe you’ll call your best friend and go hat-in-hand and disclose all of the guilt that you may have about not saving enough already. Not happening.

You could call your parents’ financial advisor who will tell you that she remembers when you were just “yay tall”. Nope. Not interested.

The reality is that we don’t want to leave our offices for an hour to drive to another office building to park in the parking deck, walk through some fancy lobby, take the elevator up 19 floors to great views and bottled water and sit across the table from our “advisor” while they tell us how smart they are. We want to save the time it takes to do this, to get off work early and hit Sweetwater on a perfect May day. So when I need my financial questions answered, I will schedule a 15 minute chat session or FaceTime call to ask the questions I need and be done with it.

I will know that my accounts are being watched, monitored and traded because my advisor is proactively letting me know via the channels that I pay attention to (Email, FaceBook, Twitter, etc.). They’ll tell me about the joker politicians in Washington and Facebook’s IPO and how this is going to affect my money, my investments and my overall plan.

This is the type of financial advisor relationship that I want because I love making my dinner reservations on my phone through OpenTable and ordering my ride to Gunshow on my Uber app. This is the way that you and I consume information and choose to live our lives, so why shouldn’t we do the same with your financial advisor. This is what Wela is and will continue to improve being.

Establishing a relationship with Wela starts with a click to www.yourwela.com. We encourage you to start with our Stack Up tool, which will give you the opportunity to compare where you stand financially among your peers (ranked by gender, age, and more). From there, register for a free account. There's no strings attached. You can utilize YourWela and our suite of online tools to simply set financial goals. Or you can schedule a meeting with an advisor- as many as you want- at no charge, with no obligation, and however you want whether it's FaceTime, Skype, or face to face.

Have you tried YourWela yet? How has it helped you?