3 traps to only use 401 (k) for retirement
Your employer’s 401 (k) plan is a powerful tool, and there are many benefits to contributing to a plan while you’re saving for retirement. Especially if your employer offers matching contributions, saving in a 401 (k) is a no-brainer.
However, there are other types of retirement accounts, and they also have their benefits. While 401 (k) certainly has its place, there are a few downsides to only contributing to this type of retirement account. Here are three to know.
1. You don’t have as much control over your investments
When you contribute to a 401 (k), you’re usually stuck with the specific types of investments your plan offers. Typically, this means that you have a choice of a handful of mutual funds from an investment company. While this isn’t necessarily a bad thing for many investors, it can be a problem for those who want more control over where and how their money is invested.
With an Individual Retirement Account (IRA), you have many more options for choosing where to invest your money. You can invest in various mutual funds, or you can also invest in individual stocks or bonds, exchange-traded funds (ETFs), or certificates of deposit (CDs). Since IRAs typically offer a much wider selection of investment options than 401 (k) plans, this makes them a good choice for those who want to take a more practical approach when saving for retirement.
2. You might pay higher than average fees
Almost all retirement account managers charge a fee, so no matter where you invest, you won’t be able to escape it altogether. But because you are limited to the investment options offered by your plan when you contribute to a 401 (k), you may also end up with higher fees.
The average 401 (k) plan charges an annual fee of about 1% of total assets under management, according to a report from the Center for American Progress. In other words, if you had $ 100,000 in your 401 (k), you would pay $ 1,000 per year in fees.
Even slightly above average fees can also add up over time. The average worker who pays 1% annual fee can expect to pay about $ 138,000 in fees over their lifetime, according to the Center for American Progress. If the annual fee were increased to just 1.3%, the lifetime fee would rise to over $ 166,000.
If your 401 (k) charges higher than average fees, you may not be able to do anything about it. But because IRAs offer a much wider selection of investments, you may be able to lower your fees by investing in a different type of retirement account.
3. You’re missing out on potential tax benefits
401 (k) accounts are considered a tax-deferred type of account, which means you get a tax deduction when you make the initial contribution, but you will owe taxes on your withdrawals when you retire. Traditional IRAs are also tax-deferred, but Roth IRAs work in reverse: you pay tax on your contributions up front, but your withdrawals are then tax-free.
Investing in a Roth IRA can be a wise move if you want to reduce your taxable income in retirement. It can also be a little easier to plan for retirement when you invest in a Roth IRA. Since you won’t have to factor in taxes eating into your savings, the amount in your account is the amount available to spend in retirement.
Just keep in mind that those who earn more than $ 139,000 per year (or $ 206,000 per year for married couples filing jointly) are not eligible to contribute to a Roth IRA, although it is possible to do so. Roth IRA contributions stolen if your income exceeds the limit. . Plus, you can only contribute up to $ 6,000 per year into a Roth IRA (or $ 7,000 per year if you’re 50 or older). So, if you are a super saver, you may need to take advantage of another type of account besides an IRA.
When to invest in a 401 (k)?
All of this doesn’t mean that your 401 (k) isn’t a good choice for saving for retirement. The 401 (k) also has its benefits, especially employer contributions. So, in many cases, your best option may be to take advantage of multiple retirement accounts.
For example, if your 401 (k) charges a high fee, you might choose to contribute just enough to earn matching contributions from your employer, and then put the rest of your money into an IRA. Or if you want to reduce your taxes now and in retirement, you can choose to save in both a 401 (k) and a Roth IRA. If you plan to put a lot of money in your retirement account each year, you can choose to maximize your IRA and then put the rest in a 401 (k). The annual contribution limit for 401 (k) is $ 19,500, so if the $ 6,000 per year limit for IRAs is not enough, your 401 (k) can keep you saving.
All retirement accounts have their pros and cons, and 401 (k) is no exception. While this is a wonderful option that has its good points, you might be missing out on avoiding other types of retirement accounts.