After years and years of advising clients to maximize their 401(k) to pay themselves, not the IRS, I did a double take and some serious thought after reading an article in TIME , with the headline “Why It’s Time to Retire the 401(k)”. The author does a great job of pinpointing the flaws in the 401(k) as a retirement vehicle, due to recent market conditions, with his statements:
The ugly truth, though, is that the 401(k) is a lousy idea, a financial flop, a rotten repository for our retirement reserves. In the past two years, that has become all too clear. From the end of 2007 to the end of March 2009, the average 401(k) balance fell 31%, according to Fidelity. The accounts have rebounded, along with the rest of the market, but that’s little help for those who retired — or were forced to — during the recession. In a system in which one year’s gains build on the next, the disaster of 2008 will dent retirement savings long after the recession ends.
In what must seem like a cruel joke to many, the accounts proved the most dangerous for those closest to retirement. During the market downturn, the 401(k)s of 55-to-65-year-olds lost a quarter more than those of their 35-to-45-year-old colleagues. That’s because in your early years, your 401(k)’s growth is driven mostly by contributions. You control your own destiny. But the longer you hold a 401(k), the more market-exposed it becomes. It’s a twist that breaks the most basic rule of financial planning.
He does bemoan the state of affairs of the 401(k) plan right now…but he is not discussing the tax savings either that have been incurred over the years, and the time value of that money, which would offset some of the losses that have been incurred. Further, many employers match contributions at the 50% rate for the first 6%. Thus, even with portfolios losing ground, one needs to analyze the real loss in these accounts when determining if they are for you. He does discuss that defined benefit plans, which were in place in the past, are passe, since employers have opted to eliminate them in many companies, the options for individuals pondering their retirement is woefully inadequate today. Individuals are asked to manage their futures in a market that they do not understand.
The Wall Street Journal published a similar piece in January, 2009. Of particular note:
Part of the problem, critics say, is that the 401(k) is trying to fill a role it was never designed to play. The plans were born with little fanfare in 1978 when Congress added section 401(k) to the Internal Revenue Code. Initially, many employers saw them as a supplement to company-funded defined-benefit plans and Social Security — and a way for executives to stash some of their compensation in tax-deferred accounts.But the legislation marked the beginning of the end of professionally managed pensions that As big employers recognized that 401(k)s are substantially cheaper than defined-benefit plans, the employee-managed accounts moved from supporting role to center stage. Many workers didn’t even participate in the voluntary plans, which meant that employers didn’t have to make matching contributions. What’s more, employers aren’t required to contribute to the plans at all.
The problem is not the 401(k) or the IRA plan or SEP. The problem is that it is now trying to do what it was never intended to do, which is be THE retirement plan for indviduals, who have no training in Portfolio Management.
Luck of the stock-market draw
Many 401(k) providers have long argued that participants just need more education to make appropriate investment decisions. Some in the industry are giving up on that notion. “Let’s face it, participant education has been an abject failure,” says Bramlett of 401(k) record-keeping company BenefitStreet. In the plan that BenefitStreet offers its own employees, workers don’t cobble together their own investment mixes; they can choose from just five premixed, diversified portfolios with different levels of risk.Even if workers follow the golden rules of 401(k) investing — saving early and diligently, holding a broadly diversified investment mix, never tapping their savings until retirement — their success can still depend largely on the luck of the stock-market draw.
Boston College’s retirement research center recently ran scenarios that assumed workers had contributed 6% of pay to a plan for 40 years, had invested in a target-date fund, had never touched their savings until retiring and had annuitized the assets at retirement. The chunk of pre-retirement income these savers could replace in retirement varied dramatically depending on when they retired. Those retiring in 1948 could replace just 19%; those retiring in 1999, 51%; and 2008 retirees, 28%.
Julien Pierre has been a model 401(k) saver. The 32-year-old Santa Clara, Calif., software engineer started contributing to a 401(k) when he was 19, and he has made the maximum contribution for the past eight years or so. He has a well-diversified investment mix, including large-cap, midcap, small-cap and international stock funds.
He started last year with about $220,000 in his 401(k), but about $90,000 of that has been wiped out in the market meltdown. What’s more, his employer recently announced thousands of layoffs. Though Pierre is still maxing out his 401(k) contributions, he sees his plans to retire early crumbling and thinks it may take years to determine whether his faith in the plan has been justified.
“I obviously don’t feel very good about things,” he says. “I’m not looking forward to working that many years.”
My opinion is that it won’t be anytime soon before Traditional defined benefit plans are reinstated, if ever. So, this is all we have. Take the time to meet with a Professional Financial Advisor. Make sure they have appropriate designations: CFP, ChFc, etc. We can provide you with recommendations for you. Do you try to diagnose and treat yourself medically without a license? No. Then, do not tamper with your future. Hire a professional to manage your portfolio around the options provided by your employer’s plans. And, kindly resist the urge to yell at your tax professionals about your dwindling portfolio.
We will gladly talk to you about your options at any time! Give us a call or email!
