Retirement. For recent college graduates, it feels like that milestone while never arrive. While those that have been in the workforce for nearly 40 years are anxiously hoping they can afford to retire. As retirement pensions have disappeared like the dodo bird in most industries, employees are now responsible for saving for retirement. While many employers offer a matching program to incentivize 401k retirement savings, sometimes it’s best to invest for retirement outside your company 401k.
Reason #1: Your Company 401k Has Lots of Fees
Why do most people shop online? Partially because it’s more convenient, but, mostly because they can buy the same item for a few dollars cheaper. Several online purchases over the course of a year or lifetime can very easily lead to thousands of dollars in savings. The same can be said for your 401k plans as some are more expensive than others.
With the average annual operating fees for a 401k plan at 1%, you pay $100 for every $10,000 you have invested. If you invest outside your 401k in index funds with a 0.15% expense ratio, you only pay $15 per month with that same $10,000 investment and have an extra $85 each year to invest. Over the course of your working career that’s a savings of at least $3,400 before including interest and anything you invest in excess of that first $10,000! The hot new trend is robo-advisors, where artificial intelligence helps new and old investors get started at very low expense ratios.
Reason #2: Your 401k Has Lousy Investment Options
With a 401k plan, you might be limited to 15 or 20 investment options. If some of these funds are top performers and have low fees, you have a good plan. If not, you can do better by opening a Traditional IRA or Roth IRA where you can literally choose from thousands of stocks, mutual funds, and ETFs with better a performance history and lower fees.
Reason #3: You Want To Contribute Post-Tax Income
The overwhelming majority of company 401k plans are funded with pre-tax dollars like a Traditional IRA. This means your taxable income is reduced now but your contributions will be taxed as you withdraw them after 40 years of appreciation. If you don’t want to be hit with a surprise tax bill when you live on a fixed income, a better option might be a Roth IRA that allows you to pay the income tax now instead of when you retire. More companies are beginning to offer Roth 401k plans, but you still have the same limited investment options at your traditional pre-tax 401k plan.
Reason #4: You Might Switch Employers
The likelihood that you will stick with the same employer for your entire career is very slim. In fact, Millennials currently change employers at least every three years! You can rollover your 401k to a new provider to “bundle” all your money, but, you might also forget you even had a 401k in the first place. By keeping a separate IRA, it follows you everywhere regardless of your current employer with nearly unlimited investment choices.
Closing Thoughts
If your employer offers a matching contribution, make sure to invest at least that much each month to maximize the “free money.” After completing the match, you need to decide if it’s better to continue investing solely in your 401k or branching off into a separate IRA. With plenty of low-cost investment options and additional tax savings opportunities, investing outside your company 401k has never been easier or cheaper.