What your 401(k) advisor likely won’t tell you

The book makes some excellent points about 401(k)’s that are worth noting:

1. 401(k)’s were designed to supplement employer pension plans. When employers realized they could save buckets of money by offering only 401(k) plans, pension plans went by the wayside.
    
2. Not surprisingly, a whole new industry of “401(k) plan advisors” cropped up because advisors could make a bucket of money for putting these plans “under management.” These plans are structured to benefit the institutions and advisors who administer them and the government.  Not you.
    
3. The investment options are usually painfully limited, and the advisor available to you is around maybe once or twice year.  In some plans, you can change your investment allocation only once a year.
    
4. 401(k)’s lack liquidity.  If you access the money before you are 59-and-a-half years old, you pay a 10% penalty.  Sure, you can pull it out for medical emergencies, education or to buy a house.  But most people need it when they are unemployed or in some other financial crisis, which isn’t exempt from the 10% penalty.
    
5. Some employers won’t let you shut down your 401(k) unless you quit your job.
    
6. 401(k) investments are often limited to stock market investment choices and most people don’t have the expertise or the time to research the choices.  The stock market volatility can be a killer, and most people are fully exposed.
    
7. Employers can modify, suspend, or eliminate the company match anytime they want.
    
8. If you borrow against your 401(k) and your employment is terminated for any reason, you usually owe the money back in 90 days.  Or pay the taxes and penalty.
    
9. Administrative fees can easily exceed 3%. If you only take 2% off the top, it can cut your long-term return in half.  If hypothetically, if the administrator invests its 3% from your $8K contribution to your 401(k), in 40 years, the administrator would have more money.  Whose retirement are you funding?
    
10. You’re sold on this story:  Save money in your 401(k) now to get a tax benefit, and then when you retire, you’ll take money out in a lower tax bracket.  The story’s unlikely to be true.  First, I believe tax rates are going up.  But even if they don’t, you’ve likely lost all the deductions you had while contributing to the 401(k) like the deduction for mortgage interest, your dependents, and your 401(k) or IRA contribution.  Those have likely disappeared by the time you retire.
     
11. The government is ALWAYS your 401(k) partner. The bigger your account gets, the bigger the government’s share.  Whose retirement are you planning?
     
12. If you die owning a 401(k), your heirs could get as little as 27% of it after taxes.

  There is a better way.  Let’s talk.
 

What will this mean?  Most likely, nothing. Congress has been way too busy with healthcare to deal with this issue, especially since the tax generates relatively little revenue. But this issue is a mess for the estate planning of those high net worth folks who tend to contribute to political campaigns and issues.  While the estate tax goes away, the carry-over basis rules step in.  Congress has tried that before. It doesn’t work.  In the spring, Congress will likely reinstate the estate tax to 2010 levels and make it retroactive to January 1, 2010.  We’ll have to see where Congress goes from there.

What should you do?  Bay Area residents will likely have a net worth of over $1 million when they die, so you need to pay attention to what happens and be in contact with your estate planning attorney.  Those folks with parents on life support with estates greater than $5 million might have some opportunities here, but for most of us, no need to kill off those aging relatives next year and no need to panic about your estate plan.