Retirees May Need Personal Loans in Addition to 401(k)s
Consumers may need personal loans to manage through retirement if they aren’t careful with their 401(k) accounts. A 401(k) account allows a working person to save for retirement, invest the savings and defer taxes until after retirement when, in most cases, the account holder’s income will be subject to a lower income tax rate.
To make contributions to the fund, an investor opts to have a portion of his or her paycheck paid directly into the 401k account. Many employers offer the additional benefit of matching an employee’s contributions by depositing additional money or by making profit-sharing contributions to the plan. Regardless of the added benefits, the basic 401(k) account is a simple and effective way for an employee to squirrel away money for retirement.
The downside of 401(k) investing
Although the idea is a good one, there are certain things a 401(k) provider doesn’t usually tell its depositors. Here are some of the most important things to know:
- Investment companies make big money on 401(k) accounts, even when account holders do not. The number of 401(k) investors has risen sharply in the past few years. Cerulli Associates, a research and consulting firm specializing in financial services reported the number has fallen to only 50 million providers. Though companies are more efficient because of competition, that doesn’t mean account holders will benefit.
- The 401(k) account rarely offers top funds. The reason for this is simply that asset managers may not have top funds in each category. A company could, for example, offer a large cap stock fund that’s good, but a small cap that isn’t. From a recent article on Yahoo! Finance, research director for Morningstar Russel Kinnel said, “If you see some lousy funds from the company that’s providing the plan, that’s probably why.”
- “Target-date funds” may not be accurate. As required by last year’s Pension Protection Act, 401(k) accounts have “target dates” as default options. Each 401(k) account allocates assets according to the account holder’s expected retirement date and becomes more conservative as the date nears. Research indicates some target date funds don’t always earn enough for retirement. Kinnel added, “Retirees may need to supplement funds with personal loans, family help or part-time work to make it through their monthly expenses.”
- Account holders who quit their jobs may have to pay to keep their 401(k) at the former-employer company. A Hewitt study showed that 32% of people who quit their jobs ended up leaving their 401(k) accounts with their old employers. Leaving the account where it is may seem like an easier option than filing the intensive paperwork required for a transfer, but the hidden costs of doing so can be overwhelming.
- Roth IRAs may be more beneficial than 401(k) plans, although few employers offer them. Whereas traditional 401(k) accounts have tax-deferment features, Roth IRAs are taxed up-front rather than at the time of withdrawal. Only about 5% of retirement plans available through employers offer the Roth IRA option. A Roth IRA isn’t for everyone, but it does have benefit some people substantially.
There are other ways to create wealth
Other kinds of savings may create more wealth than retirement accounts. The 401(k) is a work in progress, and lawmakers are scrutinizing procedures and fees. Until the rules are finally settled, other savings vehicles may offer higher returns. In the same Yahoo Finance article, Brent Glading of the Glading Group said, “For those who are not averse to risk, high-end stocks and bonds can be great investments that offer a bigger return in a shorter amount of time…they aren’t for the faint of heart though. Only serious investors with a stable vision should even try to manage them.”
Strengths of 401(k) accounts to be tested
The 401k account is a unique savings vehicle that offers a tax-deferred way to save money for retirement. Though many employees are relying on the accounts to carry them through their retirement years, analysts say that many account holders are not saving enough. They may need to rely on family help, personal loans or other types of savings to make it through retirement.
