How To Know You Have A Lousy 401 (K) Plan – What Are Your Alternatives?

In general, most people don’t have enough money saved to last until retirement. A recent Boston College study as reported by the NY Times (3/5/2015, Section B1) said that the average 55-64 head of household “had only about $ 104,000 in retirement savings.”

Gone are the days when you could receive pension checks during your golden years due to defined benefit plans offered by employers. Today, most private companies offer some form of defined contribution plans, including 401 (k), which has transferred the burden of saving and managing your money for retirement on you. To encourage you, for example, your employer can contribute up to 50% of your contribution, if you invest at least 6% of your annual salary. Some may contribute less or even none.

It feels good to have a 401 (k) plan. However, as soon as you inspect the high costs and limited amount of funds available in your plan, you realize that creating a reserve for your retirement is more of a dream than a reality. Plus, you’re happy to defer your taxes now as they may be lower at the time of withdrawal upon retirement. However, the current trend of tax growth indicates that you may end up paying more taxes than you anticipated.

Here are five ways to check your plan’s financial health and vital data.

1. A retirement plan is only as good as its funds. If your plan offers a limited number of mutual funds, your chances of creating a large diversified portfolio are diminished. Some plans offer only a few mutual funds, while others offer a better variety of funds, including exchange-traded funds (ETFs) with much lower cost and greater diversification. You can spend a lot of time creating a sound and appropriate investment policy. However, without adequate funds in your 401 (k) plan, it would be difficult to mitigate portfolio risk and achieve your financial goals.

2. Cost is a major factor that could make or break your future savings. Mutual funds generally carry a high administration fee. Active-managed mutual funds have much higher fees than passively-managed market indices. In addition to commissions and administration fees, your plan may impose annual maintenance fees for low balances. A higher cost simply means a lower return on your plan.

3. Not all funds are created equal. If you decide to absorb the usual high cost associated with mutual funds in your plan, you should consider their risk-adjusted performance. A Sharpe index measures a fund’s performance relative to its risk. Comparing different funds for their performance does not reveal the risk taken to produce the performance. In addition to the Sharpe index, you can use other risk measures such as Alpha and R Squared to evaluate your plan funds. Alpha measures the fund manager’s performance and ability to generate performance. R Squared measures how close or far a fund has performed compared to its benchmark. Financial websites like Yahoo and Morningstar tools should help you choose the funds available in your plan based on different measures of risk.

4. Your employer does not contribute to your 401 (k). When there is no contribution from your employer to your plan, there is no need to invest in the plan. By investing in a restricted plan, you end up paying too much without your employer benefits. You are encouraged to look for a better tax-deferred alternative to your 401 (k) plan.

5. Long consolidation program. If your plan has a long consolidation schedule, when you leave your current job, you may have to give up some or all of your employer contributions. Some plans may have a vesting schedule which means that unless you are employed for a specific number of years, you are not entitled to contributions from your employer.

If you find you have a mediocre 401 (k), you have several alternatives to consider saving for retirement.

IRA or Roth IRA

The Individual Retirement Account (IRA) is a tax-deferred retirement account available to people with earned income. Unlike a 401 (k) opened and provided by your employer, you open your own IRA or Roth IRA with a financial institution or custodian. Within your IRA or Roth IRA, you can invest in stocks, mutual funds, ETFs, and some other assets. An IRA or Roth IRA helps people save and invest money for retirement. With a traditional IRA, the contribution is generally tax deductible, since you defer taxes for the future. Whereas for Roth IRA, you pay taxes now and your withdrawals are tax free upon retirement. For Roth IRA, there are some eligibility requirements.

You can contribute up to $ 5,500 to your traditional and Roth IRAs (for 2014 and 2015), or $ 6,500 if you are age 50 or older by the end of the year; or your taxable compensation for the year. According to the Internal Revenue Code (IRC), if you are single or head of household with a Modified Adjusted Gross Income (AGI) of $ 61,000 or less, you can contribute to your IRA up to the contribution limit. Or if you are married filing jointly or are a qualified AGI-modified widower of $ 98,000 or less, you can contribute up to your contribution limit amount. Your deduction may be limited if you (or your spouse, if you are married) are covered by a retirement plan at work and your income exceeds certain levels.

You can only contribute to an IRA or Roth IRA if you have earned income. According to IRC, the following people qualify for earned income; wages, salaries and tips, union strike benefits, long-term disability benefits received before minimum retirement age, and net earnings from self-employment.

However, if you are not working, but are married to someone who is, you can open a spousal IRA that could be funded by your spouse working toward retirement.

Annuities

To ensure a better retirement fund, an annuity is a valuable asset to consider in your retirement portfolio. An annuity is a contract issued by an insurance company that pays a stream of income for a period of time or for life. Annuities can be immediate or deferred. An immediate annuity begins its payment flow as soon as it is opened. In contrast, payments for a deferred annuity do not begin until a later date in the future. You can fund your annuity contract with a lump sum payment when you open it, called a single premium annuity, or you can pay something now and add more in future periods.

Annuities are divided into three main types; Fixed income, variable and variable income. A fixed income annuity pays you income based on a fixed interest for the life of your fund. It works like a CD, money market, or bond. An equity-indexed annuity, like a fixed annuity, provides a guaranteed minimum return, while offering upside potential when investing in the stock market.

Unlike equity and fixed income indexed annuities that guarantee equity, a variable annuity contains a subaccount that you could lose out on when investing in stocks, mutual funds, bonds, real estate, commodities, and other assets. Variable annuities seek a higher return by investing in a wide range of risky assets.

Common Features of Annuities

There are different types of annuities (i.e. fixed, deferred, variable), however, they mostly share the following common characteristics:

Annuities are financial assets. You can buy them as a separate investment vehicle or within your IRA and any type of retirement plan qualified as a 401 (k) plan. Since they are tax-deferred vehicles, an early retirement before age 59½ would incur a 10% penalty from the IRS. However, insurance companies generally allow 10-20% of the principal to be withdrawn each year without penalty. An annuity has a decreasing fee schedule for early withdrawal known as surrender charges. It is generally the heaviest in the early years; An annuity can charge 7% per withdrawal in the first year, the second year 6% and decreases to zero percent in year 7, for example.

You can invest as much as you want in annuities unless it is part of your IRA or 401 (k) plan, which is restricted to the allowed amount. Some insurance companies may limit your annuity investment to a large amount, such as $ 5 million.

Advantages and disadvantages of annuities

Among the benefits of annuities is their tax-deferred feature, which helps you save for retirement as much as you want. An annuity contract can provide you with an income for life depending on the payment options you choose. Some may guarantee an income for the rest of your life (or single life), or your life and that of your spouse is also known as joint life. If one of your investment goals is to earn income, you should consider the annuity for your retirement portfolio.

Annuities come with some downsides, like fees, expenses, and commissions. Gains and withdrawals are taxed as ordinary income compared to lower rates for long-term capital gain. Your money is under lock and key. Although you can withdraw your funds early, your withdrawals are subject to early redemption charges. Also, like any other retirement plan, you must pay a 10% penalty to the IRS before age 59½. Also, annuities are not guaranteed by the FDIC. Therefore, the financial guarantee provided by an insurance company is backed by the creditworthiness and financial strength of the carrier.

Annuities could improve your retirement portfolio. However, there are more details that need to be reviewed before making a decision on annuities as a viable asset for your retirement portfolio.

If your current 401 (k) plan is lousy with high cost and limited funds that doesn’t meet your investment goals and needs, you should seek the help of professional financial advisers. The stakes are too high to manage your retirement plan as a do-it-yourself project.

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