5 ways to make your lousy 401(k) plan stellar
Reprinted courtesy of MarketWatch.com.
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Millions of American workers are trying to save for retirement within 401(k) plans that severely restrict their investment choices. If you’re in that spot, what should you do?
Perhaps your 401(k) plan won’t let you choose an emerging markets fund, a small-cap value fund, a REITs fund or maybe even a large-cap U.S. value fund (only a minority of the biggest plans offer that last option). Or maybe most of your plan’s choices are actively managed funds with high expense ratios.
If this describes your predicament, don’t despair. There are a handful of options that may be available to you; some of them have a huge potential to improve your long-term financial success.
1. Self-directed investments
If your plan is run by Fidelity Investments, you are probably in luck. I believe that most Fidelity-run plans has an option that will let you “self-direct” your investments.
This option lets you keep your tax-advantaged status while you choose the options you need. It’s like having your own brokerage account inside your retirement plan.
Many non-Fidelity plans also include the self-directed option.
If you do this, you should of course avoid giving in to the temptation to buy and sell individual stocks or mutual funds run by “hot” managers. Instead, find low-cost index funds to gain access to the 10 equity asset classes that I recommend.
Those asset classes are U.S. large-cap stocks, U.S. large-cap value stocks, U.S. small-cap growth stocks, U.S. small-cap value stocks, international large-cap growth stocks, international large-cap value stocks, international small-cap growth stocks, international small-cap value stocks, emerging markets stocks and REITs.
If you prefer, you can invest in exchange-traded funds. You will find my recommendations for commission-free ETFs from Vanguard, Fidelity and Schwab. I also have recommended picks for mutual funds at Fidelity, Vanguard and T. Rowe Price.
Here’s another use for the self-directed option. Some investors who yearn for the simplicity of target-date retirement funds nevertheless find themselves stuck in 401(k) plans that either don’t have such funds or have substandard choices in that category. If that describes you, the self-directed option may give you access to a better array of target-date funds.
2. In-service transfer
Consider what’s known as an in-service transfer or in-service distribution, if this choice is available to you. This provision lets you roll over some (but usually not all) of your 401(k) balance while you are still working.
The details can be tricky, and you’ll need to make sure you are doing this properly so you avoid a potentially expensive tax bill. Whether — and how — you can do this depends on your age and the rules of your specific plan.
If you are able to do that, you’ll wind up with a Rollover IRA and the same smorgasbord of choices as I just described under “self-directed.”
I mentioned tricky details. To do an in-service distribution, you have to move the money from the 401(k) to the IRA within 60 days. You can do the rollover directly (I recommend this method) or you can withdraw the money yourself and then put it into an IRA.
In this second method, if you miss the 60-day deadline, you could have to pay taxes on the distribution plus, if you aren’t yet 59 ½ years old, a 10% early-withdrawal penalty.
You may also be limited in the amount you can roll over; matching contributions you have earned may have to stay in the 401(k).
This won’t be easy, but some people have done it successfully. Persuade the trustees of your plan to offer more options. This will take some work, and the probability of success is uncertain. Still, if you can succeed in making a change, it will be well worth your while and a huge benefit to your fellow workers.
If you and enough of your fellow employees make your wishes known, you may be able to get the trustees to add options such as funds that invest in small-cap stocks, value stocks and similar asset classes with international stocks.
To do this successfully requires that you know who makes the decisions about your plan and to understand what you want and why it is to your benefit and the benefit of your fellow employees.
This may sound daunting, but remember, the trustees of your plan are likely to be executives or officers of your company. Most likely they have their own money in the same plan. That means that what you want — better options — will serve theirinterests as well as yours.
When you contact the trustees, make sure they have a copy of my column, 6 steps to the ultimate retirement portfolio, which makes the case for all the important asset classes that your plan should offer.
4. Invest less
Consider investing less money in your plan. Often, the 401(k) is not the best way to save for retirement — with one very important exception. That exception is the employer match. If your employer will match any part of your contributions, then you should do whatever it takes to get the full advantage of that benefit.
However, once you have maxed out this “free money” from your employer, you may be better off investing in an IRA instead of putting more into your 401(k). The most important advantage of an IRA is the much wider scope of its investment choices.
Regularly contributing to an IRA can be just as easy and convenient as having money withheld from your pay. Simply have your IRA custodian withdraw a set amount from your bank account the day after every payday.
5. Rollover IRA
When you change employers or retire, you don’t have to leave your money in a substandard plan. Instead, move the money in your plan into a Rollover IRA. That will give you all the choices I described above.
If these options aren’t enough to give you everything you want, don’t lose sleep over it. Do the best that you can, keep contributing regularly, and use taxable non-retirement accounts, if you have them, to add the asset classes that are missing from your employer’s plan.
Regardless of your circumstances or your 401(k) plan, there’s something here you can do that is likely to help you get more of what you want and need from your investments.
Find it, then do it. You won’t be sorry.
Richard Buck contributed to this article.