Originally published on: July 31, 2017
The 4-1-1 on 401(k) Blunders
Understanding the in’s and out’s of your 401(k) can be downright confusing. Making decisions about how much to take out of your paycheck, what your investment mix should be, and choosing other savings strategies at the same time can be complex. Here’s some basic blunders to avoid:
• Not Determining Your Magic Number
Sports teams always know their “magic number” when playoff season is looming. Do you know your retirement magic number? Only 53 percent of workers have tried to determine how much money they’ll need to save by the time they retire, according to the Employee Benefit Research Institute. Take the time to formulate your magic number so you can lay out your next steps for saving. You can always adjust it later if need be. How much is enough for retirement? Financial experts’ general rule of thumb is 10 times your final salary, so based on your earning potential you can put together a rough number and adjust from there.
• Playing it Too Safe
It’s okay to play it safe with money in the bank, but playing it too safe can actually cost you. Money market funds, CDs, treasury bills, and savings accounts can be helpful, but they don’t actually work for you to grow your money. Your 401(k) offers much greater potential. If you’ve got all of your money in non-growth accounts, think about diversifying.
• Not Balancing Your 401(k) Chakras
You’re balancing your chakras in the yoga studio, but what about your investments? You’re not alone if you’ve set your investment strategy and then moved on. The problem is, over time, the investments will gain and lose money, resulting in portfolio re-allocation, which takes on more risk. For example, if you initially invested in 60 percent equity funds and 40 percent bond funds, over time, your portfolio may shift to 85 percent equity funds and only 15 percent bond funds. Rebalancing your 401(k) chakras regularly will allow you to keep your portfolio in a Zen state, reducing volatility in portfolio returns.
• Leaving your 401(k) Behind
Many people leave their old employers’ 401(k) accounts behind when they move on to a new job. With recent statistics showing that people change jobs 10 to 15 times over the course of their life, that’s a lot of passwords to remember. Managing multiple 401(k)s is not only a hassle, it can result in paying higher fees and lead to restrictions on when and how you can access the money when you really need it. Check out our 401(k) Rollover Evaluator to see what your options are to combine your old 401(k) into one account.
• Believing There’s No Such Thing as a Free Lunch
If your employer offers a 401(k) match, it’s basically a free lunch that could make a big impact on your retirement savings. If you make $50,000 a year and your employer offers to match up to 6 percent of your salary, that equates to $3,000 dollars a year in free money. That could get you a lot more than a sandwich when you retire!
• Paying Too Much Attention to the Market
Do you feel panic come over you when the morning news announces how much the Dow dropped this morning? Do you log in to your 401(k) account and have an overwhelming urge to sell your shares? When investors face volatility, they can become short-sighted and make poor decisions. Resist the urge to check your balance too often during economic downturns; it can come back to bite you — and your rate of return.
• Lacking Strategy
How to invest for the future: Make sure you are investing in a way that is appropriate to your age and your goal. Be strategic. If you’re younger, you can be more aggressive with your diversification. If you’re nearing retirement, you will want to take less risk.
• Investing too much in employer stock
While having the option to invest in employer stock can be a great benefit, investing too much in one thing is never a good idea. The goal is to always make sure that you are fully diversified in order to help reduce risk, including both employer stocks when available and 401(k)s.
• Borrowing from your 401(k)
You may have the option to take out a loan against your 401(k) funds, but have a solid plan to pay it back. Be sure to check with your plan about how much time you have to repay the loan. If you are terminated or leave before the loan is paid back, you may be stuck paying it back in full before your last day or facing unpleasant tax penalties. In addition, you’ll reduce your 401(k)’s earning potential based on the money you borrow.
• Being a Minimalist
Your employer may have defaulted your 401(k) contribution at a specific percentage. The norm tends to be around 2 or 3 percent. Conversely, most financial advisors will suggest saving at least 10 to 15 percent, however, our philosophy ties back to your magic number: its correlated contribution percentage will most likely be higher than the default percentage. Remember, you can always work your percentages up over time. The money is deducted pre-tax, so the overall impact on your wallet is likely less than you think.