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Retirement

Do you ever have a sense that you have a bad 401(k) at work? If you do, you’re not alone. While a lot of employers have 401(k) plans, many of those plans are average or worse. But if you are in such a plan, you do have options.

Bad 401k at work

First we’ll look at how to evaluate a 401(k) plan. It’s much easier than you think. Then, if you find your retirement plan lacking, we’ll give you some actionable tips you can follow to make the most of a bad 401(k).

What Makes a 401(k) ‘Bad’

How do you know that you’re not just being a malcontent about your plan? Is it really bad? Here are some telltale signs:

  • High fees. High fees usually come in the form of high expense ratios. An expense ratio is the industry’s term to describe how much a mutual fund charges its shareholders. An expense ratio of 1.00% means that you will be charged 1.00% of the amount you have invested in the fund each year. While that may not sound like much, even a fee of 0.50% can result in hundreds of thousands of dollars in fees over a lifetime of investing. Generally, fees above 0.25% for an index fund or 0.75% for an actively managed fund are considered too high.
  • Limited investment options. Some 401(k) plans will have a single fund available for each of several sectors. This may include a US growth fund, a foreign market growth fund, a bond fund, a money market fund, and maybe two or three sector funds. The plan may also invest with a single mutual fund family, where you don’t find many attractive options. While the number of funds by itself is not critical, having limited options combined with high fees is a problem.
  • No- or low-employer match. One of the biggest attractions of any 401(k) plan is the employer matching contribution. But if your employer does not offer a match, or if the match isn’t particularly generous, it lowers the attractiveness of the plan.

If your plan has any of these limits, it’s almost certainly a bad 401(k) plan. You can do your best to make the most of it, but you will have to consider other options to compensate for the weaknesses in the plan.

Talk to Your Employer

The first step should be to talk to your HR department. Particularly when it comes to investment options and fees, employers often want to know if employees are happy with the retirement plan. Changes may not occur quickly, if at all. But it doesn’t hurt to ask.

Contribute Enough to Get the Maximum Employer Match

If your 401(k) plan is wanting, then you’ll probably want to limit the amount of money that you put into it. Still, if your employer does offer a match, you should contribute at least enough to get the maximum match. For example, if your employer offers a 50% match up to 3%, then you should contribute 6% of your pay to the plan, in order to get the full 3%.

That match is found money, and you should never ignore it. In addition, the match will turn a 6% contribution into a 9% contribution. That’s always worth pursuing, even if the investment options are lacking.

Choose the Investment Options with the Lowest Fees

If your 401(k) plan charges high fees, favor the investment options that have the lowest fees. And if there are transaction costs, it should go without saying that you should not actively trade the account. You will have to view your investments within the 401(k) as mostly static positions.

Of course, you’ll have to balance out the fee situation with the quality of the investments you purchase. A high-performing investment with high fees may be preferable to a low-performing investment with low fees.

Set up a Traditional or Roth IRA

Perhaps the best solution to a bad 401(k) plan is to invest outside the plan. The best option is through an IRA, either traditional or Roth. An IRA is a self-directed plan, which means you can choose the trustee where the plan will be held. You can choose an investment brokerage firm that will offer the widest investment selection at low fees. And you can contribute up to a set limit that can change each year (see the current limits here).

Even if your income is too high to get a tax deduction on a contribution to a traditional IRA, it will still be worth putting money into an account. In addition to the fact that you will be gaining self-directed investing for the plan, nondeductible contributions to an IRA will reduce your tax liability in retirement. And the investment earnings will still accumulate on a tax-deferred basis.

A Roth IRA serves the same purpose. While the contributions are never deductible, qualified withdrawals are tax-free. A Roth has the same annual contribution limits as a traditional IRA.

Set Up a Self-employed Retirement Plan if You Have a Side Business

If you have a side business, you can set up a retirement plan for that business. There are various options available.

The SEP IRA is a common self-employed retirement plan. However, it tends to work best for people with higher business income. The SEP effectively limits your contributions to 20% of your business earnings. This can be quite generous if your business earns $100,000 and you can make a $20,000 contribution. But if your side business earns $10,000, you will be limited to a $2,000 contribution.

Better options would be either a Solo 401(k) or a SIMPLE IRA. Each allows you to contribute 100% of your income up to the plan limit. In the case of the solo 401(k) plan, the maximum contribution is $18,000, or $24,000 if you are 50 or older (these limits can change from year to year). You can also make an employer match of effectively 20% of your total business earnings.

The SIMPLE IRA has a maximum contribution of $12,500, or $15,500, if you are 50 or older (again, these limits can change each year). The maximum contribution isn’t as generous as it is for either the SEP IRA or the solo 401(k). But if your business earnings are within those contribution limits, it can be a good plan to have.

If you do have a self-employed retirement account, the combination of contributions to that account, plus your employer plan, cannot exceed $54,000 per year, or $60,000 per year if you are 50 or older. Both totals include the employer match and also can change each year.

Invest in Taxable Accounts

This can be an especially good strategy if your income is too high to make a tax-deductible contribution to a traditional IRA or to participate in a Roth IRA plan. You can simply save money in taxable investment accounts in addition to your employer-sponsored 401(k) plan.

There’s no tax deduction for making contributions to taxable accounts, nor do you have the benefit of tax-deferred investment income. But that also opens up the possibility of having tax-free income in retirement. That is, you will be able to make withdrawals from your taxable accounts without having to pay income tax on the amount of those withdrawals. (Of course, the income you earn on taxable accounts will always be subject to income tax in the year earned.)

As you can see from this list, you are not without options if you have a bad 401(k) at work. Participate in the plan at some minimal level, but maintain the bulk of your retirement assets in other accounts.

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Ever wonder how social security is calculated? It’s not just an academic exercise. Understanding how the Social Security Administration calculates your retirement benefits can help you maximize your monthly check.

How Social Security is Calculated

I have exactly one friend who enjoys talking about money — you know, who actually likes discussing 401(k)s, saving rates, and taxes.

Well, she recently brought up the topic of Social Security because her father is 62 and was thinking about filing. I asked her, “Why would he do that?” Her response: “Because he can.”

Her father is an intelligent, successful doctor who still practices medicine several days a week. I thought to myself, “Surely, if I could just help him understand the way Social Security is calculated, he will change his strategy.” And he did! Once he understood the process, he wanted to optimize his check. For him, that meant waiting.

You can understand, too. I’ve described below the basic steps used to determine your benefit. The plan you have now might not be the best plan for your bank account.

1. Every year of earnings is calculated to represent present value

Social Security does this for your benefit, actually. The present value calculation neutralizes the effects of both wage growth and inflation.

Earning $10,000 in 1982 is like earning $25,751 in 2017. Social Security adjusts every year of your earnings to the equivalent value in the year you file. The later you can wait to file, the more likely it is that your benefits will be higher.

2. Your highest 35 years of income are averaged to determine your Average Indexed Monthly Earnings (AIME)

Social Security includes zeros in your average if you worked less than 35 years. Every year you work, your AIME will be recalculated—a high income year will replace a low income year, or a no income year.

If you are currently in your peak earnings, working a few extra years could make a big difference in your benefit.

3. Social Security will apply its own algorithm using your AIME to determine your monthly retirement benefit, or Primary Insurance Amount (PIA)

Social Security uses a complicated calculation. There is no need to compute it on your own. You can create an account with My Social Security to monitor your earnings record and view estimated monthly benefits. 

4. Full Retirement Age

Your monthly benefit is adjusted based on the age you choose to retire. It increases if you wait until after your full retirement age and decreases if you file early. Social Security determines your full retirement age on a sliding scale based on the month and year you were born. For most people retiring soon, this is approximately 67 years old.

When Social Security calculates your monthly benefit, they assume you are going to file as soon as you hit your full retirement age. However, you get to choose your filing date. The earliest age you can collect standard social security benefits is 62.

Filing Early

Let’s say that you are someone born in 1960 who has averaged a salary of $60,000 a year. When you hit your full retirement age in the coming years, you’ll receive a Social Security benefit of $2,007 per month.

Social Security reduces your benefit for every month you collect before your full retirement age. For someone born in 1960 and averaging $60,000 a year in earnings, collecting social security at age 62 results in a monthly benefit of $1,403 compared to $2,007, approximately a 30% reduction.

Filing Late

In contrast, Social Security increases your benefit for every month after full retirement age you delay filing. In the example above, if you wait until age 70, you would receive $2,483 compared to $2,007, approximately a 24% increase. But don’t wait until after age 70 because your monthly benefits stop increasing after that age.

Delaying Social Security for a few years can make a big difference over time, especially if you or your dependent spouse plan to live a long time.

Other Factors

This is not straightforward stuff. The steps above cover basic computations, though many other factors should influence your decision for when to file. For example, you should consider these factors:

  • Your overall tax situation
  • If you are working or earning income before full retirement age
  • Your immediate cash flow needs
  • If you have dependents that may qualify for family or survivor benefits
  • Your health and longevity
  • Your spouse’s health and longevity
  • If you have a spouse or divorced spouse who is a high income earner

When it comes to Social Security, the devil is in the details, and it is nuanced for every situation. And you want to get it right because you only get to file once (well, twice if you include the do-over provision).

To ensure you are filing at the best time for your situation, it’s a good idea to speak with a retirement professional, contact the Social Security office, AND keep learning on your own.

Listen to this podcast on advanced social security strategies

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It’s a fact: multigenerational households are becoming more common in the United States. In the ’50s, it wasn’t unusual for older adults to live with their grown children and possibly grandchildren. That living arrangement trended downward for several decades, but saw a big upswing between 2000 and 2014. In fact, in 2014, 19% of Americans — 60.6 million people — lived in households that included at least two generations of adults.

The economy explains some of these trends. When retirement funds crashed during the Great Recession, older adults may have suddenly found themselves unable to financially make it on their own. Now, couple that with rising housing costs and a shaky job market. The result is that many middle-aged children caring for elderly parents can’t afford to put mom and dad up in a care facility.

You can’t trace the entirety of this trend to the economy, though. Actually, some of it is due to increasing diversity in America. The Pew research shows that more families with Asian, African American, and Hispanic backgrounds are likely to live in a multigenerational household. This is likely due, at least in part, to upbringing and the cultural expectation that adult children are to support their elderly parents.

Regardless of culture or background, many adults expect to have at least some role in caring for their parents when they’re no longer able to do so themselves. But what this looks like — and the financial and emotional toll it takes — can vary from family to family. If you think you might be in this situation in the coming years, start taking the following steps now:

1. Consult your spouse and siblings

The first step in deciding how to help your aging parents financially isn’t necessarily to talk to your parents. Sure, the conversation might come up. But before you commit to anything or set expectations, consult with your spouse and any siblings who are in the picture.

It’s essential to be on the same page about elderly care with your spouse. Financially and practically supporting one (or more) spouse’s parents can put some serious strain on your marriage. So, talk to your spouse about what you would like to do for your parents. Then, reach an agreement on what you, as a couple, are willing and able to do — financially, but also practically and emotionally. Also, decide ahead of time what boundaries you need to put in place, in order to preserve healthy relationships all around.

You’ll definitely want to pull in your siblings for this. See how much they’re willing and able to contribute to your parents’ care, financially. But again, also consider the practical aspects of caring for them. Who is most able to take on emotional support roles? Who is best at dealing with practical details? Does one of the siblings prefer to have mom or dad live with their family, or do you need to work together to support your parents in a care facility or retirement community?

Having these conversations before approaching your parent(s) can help everyone stay on the same page.

2. Talk with your parents

Next, you’ll want to have a frank conversation with your parents. You don’t have to start by laying out the nitty-gritty details of their budget. Instead, try talking more generally about your parents’ goals and needs as they approach old age. Do they want to live on their own as long as possible? Have they considered a retirement or assisted living facility, depending on their physical and medical needs? Do they expect to be healthy well into old age, based on their ancestry? Or are health problems already cropping up and complicating matters?

Read More: How to Afford Healthcare in Retirement

During this conversation, you might bring up some of the options you’ve already thought out. Whether that’s helping your parents settle into a nearby assisted living facility or adding an in-law suite to your home, present these options as just that… options. Unless your parents are at the point where they are no longer capable of making sound decisions, you should try, wherever possible, to defer to their judgement and preferences.

3. Understand the financial situation

Once you’ve gotten a feel as a whole family — spouse, siblings, and parents — for everyone’s needs, preferences, and boundaries, it may be time to have a more frank conversation about money. By this time, you should already know what you are willing and able to contribute to your parents’ care and well-being. Hopefully, you also have an idea of what, if anything, your siblings can contribute.

Now, it’s time to figure out where your parents are financially. You might even want to consider pulling in a financial planner who can look holistically at your parents’ investments, retirement accounts, and other assets. This can help you get a more objective view of the best way to allocate resources.

Related: Moving Assets Into a Revocable Living Trust

Digging into the financial details may be awkward. But it’s essential in this decision-making process, as the available resources — including government-funded benefits, Social Security, and assets — will tell you what options are available to your family now and in the future.

4. Consider long-term care insurance

If there are potential health issues in the picture — or if mom and dad don’t have enough money to handle potential assisted care — consider long-term care insurance. This is an insurance product specifically for paying for long-term healthcare, often including assisted living and in-home care that isn’t covered by insurance or Medicare. Depending on your parents’ current health status, premiums may be relatively affordable. And you could consider paying for premiums yourself — or with the help of siblings — to reduce the risk of having to pay out loads of money for long-term care in the future.

5. Put a plan in place (and have a backup)

Once your family has worked through all of these issues — probably over the course of several month or even years — it’s time to put a formal plan into place. This might include steps like adding an in-law suite to your own home, or converting some space you already have in order to move your parents into your home. Or it might require you to visit local assisted living and retirement communities, to be ready to move mom or dad there when the time comes.

Whatever you plan, though, make sure you have a backup. This is especially true if your goal is to move your parents into your own home. Often times, this is an excellent fit and winds up benefiting everyone. But if medical or mental health needs become more complex, this arrangement may not work out as well as you’d hoped. Always hope for the best, but plan for the worst. In this case, you may need to plan for an alternative living situation, or figure out how you could afford in-home care to help lighten the load.

6. Make it all legal

After the plan is made, it’s a good idea to ensure that a responsible sibling has medical power of attorney and financial power of attorney for your parents. While you’re helping your parents get these documents drawn up, it’s a good idea to have them go over their will with an attorney, as well.

Planning Your Estate? You Need These 3 Documents NOW

In the end, it’s up to your parents, as long as they are of sound mind, to decide who has power of attorney and how to spell out their own will. And they may prefer to work these documents out directly with an attorney. If that’s the case, simply make sure you know who has power of attorney and where copies of their documents are stored, in case you should ever need them.

7. Start helping out early

As memories start to fade or medical needs get complicated, older adults occasionally have trouble managing their finances. If you notice this happening to your parents, you may want to start helping out with their finances sooner rather than later. Sometimes this is as simple as helping them write a budget and set up automatic bill payments so things don’t get missed. Or it may be more complicated, like managing investment accounts to make the most of the savings.

Related: 7 Free Tools to Help Aging Parents With Their Money

Caring for elderly parents can be stressful — both emotionally and financially. Taking the time now to plan ahead for this eventuality will help take some of the stress out of the situation for everyone.

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If you’ve been paying attention to financial news, you’ve probably heard mention of the fiduciary rule. This rule was approved last year under the Obama administration, with the goal of increasing transparency within the investment realm. It was designed to force advisors to suggest investment products to their clients that were more affordable, rather than being able to suggest ones that instead provided these advisors with higher commissions.

While the rule has not yet been implemented (it was slated to go into play this April), it looks like its run may be short-lived. Today, President Trump signed an executive order that is likely to halt the implementation of the rule, along with ordering a widespread review of the Dodd-Frank Act.

fiduciary rule

This has many up in arms, as the fiduciary rule seems to be a matter of common sense and integrity. Forcing ALL advisors to offer their clients less expensive investment products, rather than higher priced ones that may result in bigger commissions, seems like a great idea. Transparency throughout any industry should be mandatory… so why nix the rule?

Yes, There Is Already a Fiduciary Obligation…

For almost 80 years, a fiduciary obligation — called the fiduciary standard — has been in place. This was implemented with the Investment Advisors Act of 1940, intended to affect most types of investment accounts. This standard implements an expectation that advisors need to place their client’s interests ahead of their own. The advisor is always supposed to act in the best interests of their clients, in every situation, whether the client is aware of it or not.

The reach of this standard is far and wide. An advisor cannot, for example, make trades on a client’s behalf that would result in higher commissions or fees for himself or his firm. An advisor is supposed to make all efforts to ensure that the investment advice given is not only accurate, but complete. They are bound to a “best execution” standard, while dictates that the purchase and sale of securities should be completed with the best possible combination of low cost and efficiency. Advisors are also prohibited from buying securities for themselves before they buy them (or advise their purchase) for their client.

Lastly, and perhaps most importantly, the existing fiduciary standard already prohibits the potential of conflicts of interest. In fact, if a potential conflict of interest is present, the advisor must disclose this to the client before any trades take place. Which begs the question…

Then, What Would the Fiduciary Rule Even Change?

As mentioned, the fiduciary standard already has provisions to avoid and prohibit conflicts of interest between advisors and their clients. This is, of course, the heart of the fiduciary rule… so why the new implementation?

Well, the difference primarily lies in the types of retirement account providers to which the existing rule applied.

As it stands today, the fiduciary standard does not technically apply to insurance reps, broker-dealers, and financial company reps (other than investment advisors). These individuals, instead, are bound by the suitability standard.

The suitability standard is much simpler and much less comprehensive. In a nutshell, it says that an advisor only needs to assess a client’s risk and tolerance before offering investment products and advice. Essentially, gathering a client’s preferences is enough, as long as the products the advisor subsequently recommends match those preferences. This opens up the possibility of a very large grey area… if an advisor simply believes that a product suits a client’s risk tolerance, it’s fair game.

The new rule, though, would make sure that everyone was bound to the fiduciary guidelines. Rather than having the freedom to pick financial products that simple lie below a client’s threshold, all advisors would need to first disclose the fees, limitations, conflicts of interest, etc. of the product. As of now, just the designated investment advisors are bound to such. The fiduciary rule simply hoped to expand this rule to anyone and everyone offering any sort of investment-related advice.

Why It’s Happening

Well, the argument seems to be that the fiduciary rule could actually harm many of the lower-income investors out there, in a number of ways. First, it would prevent advisors from recommending more expensive investment products to their clients when lower priced alternatives exist — even if the higher priced ones were a better match in the end.

Forcing advisors to be transparent about fees and compensation sounds like a great idea, unless the client then chooses their investment product based on this information alone. If an advisor puts three different funds in front of a client, with one having a noticeably higher rate of commission, the client is less likely to lean toward that fund. But what if it had a good chance of outperforming the others? To combat this, potential investors would need to take into account all components of a financial product, not just seek to avoid fees where they could.

Does limiting suggestions to lower cost financial products actually harm the client? Could narrowing their options actually be taking away their investment freedom, causing harm in the long run? Some fiduciary rule-protesters think so.

Another way that this rule could harm lower-income investors is through financial advisor services. Today, some companies are able to offer free or low-cost investment advice to their customers. The new regulations threaten to increase their fees for providing such, resulting in some of the smaller savers being denied advice or simply being unable to afford it.

The Impacts Overall

The fiduciary rule has also been challenged as detrimental to the smaller firms and dealer-brokers in the industry. The cost of compliance with the rule is expected to be high, with additional technology and compliance experts being an added, necessary investment.

As a result, we could expect to see many of these companies disband or be acquired. It’s actually already being seen, in the case of American International Group and MetLife Inc. brokerage operations. Both of these have already been sold off in anticipation of the fiduciary rule’s April 10 implementation date.

What does this really mean, though? Less diversity in the industry, for starters, as the independent companies disappear. Also, as the consolidation continues, it threatens to eliminate (or make difficult to find) advisors who will be able to offer smaller plans. Once again, this has the potential to greatly impact the lower-income investors.

It’s interesting to note that when the United Kingdom implemented a similar rule in 2011, their investment industry had exactly this response. Independent companies could not keep up or could not afford to comply with the technology and changes required. So, they forged paths with larger corporations. As a result, the number of financial advisors in the U.K. has dropped by a whopping 22.5% ever since, creating an even bigger guidance gap than had previously existed.

This effect makes it easy to see why the fiduciary rule has been referred to as “Obamacare for your IRA.” While the rule is necessary and important in many ways, its impact of narrowing the advisor industry down to fewer and fewer options is certainly a check mark in the negative column. Having options and healthy competition between companies is generally a big benefit for consumers.

All Hope Is Not Lost

For proponents of the fiduciary rule who are appalled to see its (likely) overturn today, I have some good news. Many of the financial services companies that were slated to be impacted by its April roll out are going to move forward with their new standards. They had already put new changes in place and believe that transparency is an important part of the advisor-investor relationship.

Companies like Morgan Stanley and LPL Financial Holdings, Inc. have both said that they still plan to move forward with the new standards that they have already worked to create. Hopefully, this idea of working in the best interest of the customer catches on and spreads, on its own, throughout the industry.

Until then, we wait and see.

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Will Traditional Retirement Accounts Allow You to Retire Early?

by Aliyyah Camp

If you plan to retire early, you may be wondering whether it makes sense to invest in traditional retirement accounts, such as employer-sponsored 401(k)s/403(b)s and IRAs/Roth IRAs. The speculation comes into play because there’s an early withdrawal penalty when you take money out of these accounts before age 59 ½. I argue that it’s still […]

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How to Afford Healthcare in Retirement

by Aliyyah Camp

Retirement is a huge financial undertaking, as we all know. It requires plenty of planning to ensure that all of your needs will be met once your career, and working income, ends. It needs to be able to cover your costs of living, some fun money to actually enjoy your years, and expenses such as […]

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Why 60,000 Morgan Stanley Employees are Suing Over Their 401(k) Accounts’ Management

by Stephanie Colestock

If you’re unhappy with your 401(k), rest easy… you’re not alone. In fact, on August 19, over 60,000 employees joined up and filed a class action lawsuit against their employer, Morgan Stanley. Their reason: questionably managed and poorly performing 401(k) plans. It’s one thing to ask workers to stay late or forget to restock the […]

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