Occasionally, Consumerism Commentary readers send in questions about handling their finances. I am not a financial planner, so I have no certification claiming I’m qualified to give financial advice. I am not an investment adviser, so I certainly won’t be recommending stocks. I like the opportunity to address financial questions that other readers may be concerned about, and if I have an opinion or two on the matter, I’d be happy to share.

Readers may disagree with my opinion, or they may agree. Addressing these questions is also an opportunity to instigate discussions. As with any advice you may receive, it’s always good to check with a professional beforehand, particularly if the decision could have significant effects on your financial condition.

Here is a question I received from Steve:

I’m 24 years old and I haven’t started any retirement savings, but I know I need to start. My company offers a 401k benefit but does not offer any match. I was wondering, would this 401k’s tax benefits still be worth taking advantage of over other retirement investment vehicles? Would a Roth IRA be wiser? Or something else?

There are two primary tax benefits to investing in a 401(k) plan. You contributions and earnings grow tax-free until you retire, and your contributions can be deducted from your income for tax purposes if your income is low enough. I describe and explain the 401(k) contribution limits here.

Taxes are a distant second next to the best benefit of most 401(k) plans: matching contributions from your employer. Employers can structure the matching contributions in a variety of forms. One of the most common is for your employer to match 100% of your contribution up to a certain percent of your salary. For every dollar you take out of your paycheck to invest in your 401(k), your employer might also contribute a dollar of its own money. This is an immediate 100% return, much better than what you can expect from any of your investments. If your employer matches your contributions, find a way — any way — to contribute to your 401(k) at least enough to take advantage of the maximum matching benefit. Don’t turn down free money.

The choice to invest in a 401(k) gets more difficult when there is no matching contribution from your employer. At that point, your 401(k) becomes just another tax-advantaged investment account. Unless your 401(k) gives you access to low-cost investments, this account should no longer be a priority. Most 401(k) plans include fund choices that are not as inexpensive as choices you can find elsewhere, like at Vanguard or Fidelity. Low costs correlate to better investment results over long periods of time, and at age 24, this particular reader could be waiting many decades before accessing this money.

You can compare costs by reading the prospectuses for the investment choices in your 401(k) and comparing the expense ratios and other fees with similar funds managed by Vanguard.

Without an employer match, consider maximizing your IRA before contributing to your 401(k). A traditional IRA offers the same tax benefits as a 401(k), and a Roth IRA forgoes the tax deduction for your contributions today for a tax deduction in retirement. That’s a good choice if you expect that you’re in a lower tax bracket today than you will be in retirement. Considering the economy today, it’s probably a good bet that all taxes will be higher in thirty or forty years as the country struggles to pay its expenses, but you never know without a crystal ball.

While your investment choices in your 401(k) are limited, you can invest in almost anything in your IRA, depending on how you open the account. Your investments in IRAs are subject to an annual limit. If you have a strong enough cash flow to schedule your IRA investments throughout the year to the maximum and still have free cash flow, then you should consider investing what you can in a 401(k) without an employer’s matching contribution if your income isn’t above the maximum for taking advantage of the tax deduction. Otherwise, just invest using a taxable (regular, non-retirement) brokerage account. You can name the account “For Retirement” and leave it alone for forty years.

I wish I had been thinking like Steve when I was 24. I’m not sure I knew about the existence of 401(k) plans when I was that age. My employer didn’t offer a 403(b) plan — the non-profit version of the 401(k) — until the following year or two, and my cash flow was so tight, there was no matching contribution, and the investments were so expensive I just laughed. My only investment was in the form of a recently-converted UTMA or UGMA invested with what was probably savings bonds I received as gifts as a kid.

In reality, just making any choice for investing is better than making no choice. Whether you invest in a 401(k), IRA, or taxable account, just the act of putting money aside for retirement puts you ahead of half of all Americans in taking steps to ensure you have a stronger future.

Do you agree or disagree with the strategy outlined above? Share your thoughts on what you might do if your employer were not to offer a matching contribution on your 401(k).

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In April, LIMRA, a think-tank for the financial industry, completed a survey intended to focus on the savings and investment preferences of those living and working in the United States. After receiving responses from 2,697 Americans, a representative sample of the country, LIMRA was able to determine that 49 percent of the country is not saving for retirement. Additionally, more than half of Americans between the ages of 18 and 34, at 56 percent, are not saving for retirement.

Saving for retirement — and receiving the associated tax benefits through typical investment types like 401(k) plans and IRAs — requires a public trust in the financial industry. On one side, financial planners, investment salespeople and brokers, columnists, and bloggers are encouraging the use of financial products that, through both apparent and hidden fees, enriches the industry, while on the other side, investment firms are the beneficiaries of massive taxpayer bailouts and frequently in the news for using taxpayer money for paying their executives bonuses that defy the laws of gravity.

It may be true that the reason many Americans do not save for retirement is ignorance. There are typical excuses for not saving for retirement, such as the lack of good, seemingly trustworthy information about the options that are available, the lack of knowledge about the benefits of investing in 401(k) plans and IRAs, or the belief that during tight personal economic times, not a cent is available to save for the future. After the recession, however, many people just see the financial industry as unworthy of trust. Organizations like LIMRA, working for the industry and promoting financial products, are unlikely to bring this attitude to the public attention.

The industry is more interested in shaming people unwilling to get on the boats rather than analyzing the leadership capabilities and trustworthiness of the boats’ captains.

I’m saving for retirement with 401(k) plans and IRAs. When possible, I choose plans that have low fees, but the choice is not always up to me. Employees may be able to choose from a selection of investments inside their 401(k) plan, employees can’t choose their company’s 401(k) administrator and broker without a coordinated effort among a large portion of employees. That would be nearly impossible in a large company. Unions are intended to solve some of these issues, but it can often reach the point where being a member of a large union is much like working for a large employer. The power of any individual is limited.

The 401(k) is ingenious for the financial industry, particularly now that it’s automatic. In a perfect world, every single employee is enrolled in a 401(k) plan on their first day on their first job. The investments may not perform well over time, but that’s not particularly relevant for the financial industry. As long as every American is investing a portion of their paycheck every week, two weeks, month, or other period, 401(k) administrators and brokers will continue to thrive. The employee probably benefits when retirement approaches, but that is by no means guaranteed. All you need to do is look at the portion of Americans who planned to retire in recent years but saw their nest eggs trampled on during the recession.

Investors bear the responsibility for changing their risk profile as they near their planned retirement, but there is a mixed message. The financial industry says you need to stay invested in stocks (highly volatile, highly risky) as you approach retirement because most people need their funds to last several decades throughout retirement while at the same time warning people to risk only what they can afford to lose. When people receive conflicting information, making decisions becomes more difficult. And when the conflicting information is coming from the same source — that is, the financial industry — the default reaction is the lack of trust.

Does the financial industry wants to do American citizens a favor by providing options for saving for retirement? No. The financial industry wants its companies to not only stay in business but to profit as much as possible. And to that end, it sells products — investment opportunities — designed to enrich the companies and their shareholders. There’s nothing wrong with this, because consumers will only buy products they need or desire enough. Companies will sell towards that need. And when only half of Americans have discovered retirement savings vehicles like 401(k) plans and IRAs, the industry will resign itself to doing a better job in explaining to the country why their products are needs, not wants.

Saving for retirement is important. For most people, stocks are the only investment type that can grow wealth quickly enough to provide the dream retirement so impressed upon Americans through media. It’s risky, as recent would-be retirees have seen. Thanks to the cognitive dissonance resulting in the understanding that the promotion of retirement is a result of the financial industry trying to increase profits on a large scale rather than corporate concern for the well-being of a nation and the knowledge that Americans must do something drastic to save money in order to fulfill the dream of quitting work, some Americans choose to invest while others would sooner give away their firstborn rather than drink the financial industry’s Kool-Aid.

LIMRA may be right — that most people who do not invest for retirement with 401(k) plans and IRAs have not done so because the industry’s message hasn’t successfully penetrated their consciousness. That may be due in part to a lack of education, but for others, it’s a lack of faith and trust in the industry.

Photo: zoonabar
LIMRA

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