Don’t get us wrong.
In many cases, your 401(k) can be your best investment vehicle, offering numerous benefits and tax advantages and many times a 100% return on some of your contributions (also known as an employer match).
However, it's important to recognize that it might not always be the optimal choice for everyone. Join us in this thought-provoking episode as we dissect some reasons why someone should NOT invest in a 401(k).
For example, if you don’t yet have an emergency fund, are worried about future tax increases or you have concerns about control, flexibility, and the limited investment options of a 401k, there are reasons to hold off on investing or exploring other investment options.
Join us as Ryan presents some alternative perspectives on retirement investing and guides you through assessing your individual situation. Stay tuned to see if adjusting your investment strategy might benefit you!
Here's some of what we’ll discuss in this episode:
- Building up your emergency fund before investing in your 401(k). (2:45)
- If your employer doesn’t match contributions. (5:17)
- If you’re worried about future tax increases. (8:28)
- The benefits of moving your money out of old 401(k)s if you no longer work for the company. (10:02)
- If you have concerns about control, flexibility, and limited investment options. (13:04)
Ryan: If you're not getting the match and if there's not a lot of good options that are available there, you may want to consider doing something else with that money. So again, this is a case-by-case basis for everybody.
Announcer: When it comes to financial planning, you need to cut through the jargon so that you can understand how to achieve your own retirement success. This is Candid Conversations, Retirement Talk with Ryan Cravitz of Cravitz Financial & Insurance Solutions.
Ben: Well, hello, and welcome back in to Candid Conversations, Retirement Talk with Ryan Cravitz. I am Ben George. He of course is Ryan Cravitz, at Cravitz Financial, there in Orange, California. Ryan, welcome in. What's going on today?
Ryan: Not too much. How you doing, Ben?
Ben: I'm doing pretty well. Can't complain. Middle of the summer as we roll right along, and no big trips planned right now. What about you guys? Anything coming up, vacation-wise?
Ryan: Well, just had a mini trip. We moved our office over here to the city of Orange, as you know, so we kind of went through that over the course of the last couple of weeks, and it's always just a subtle reminder that moving is never fun. It's a lot of packing and everything else, but I will say it's real nice being here. It's a great central location, great building, right off the freeway. It's close for a lot of people to get to, or easy access for a lot of people to get to. So it's been great so far, that's for sure.
Ben: So yeah, I was going to ask, is it as bad as moving a home? But it sounds like it's not fun no matter how you slice it.
Ryan: It's not fun no matter how you slice it, but there's definitely a lot less to have to move. I mean, there's no refrigerators or anything like that that you got to get over there, and there's a lot less packing, that's for sure.
Ben: Yeah, that bulky furniture, man, it's never fun. It's always a reminder, A, that I've got too much stuff, and B, I don't want to move again.
Ryan: Even with movers it takes forever. It always does.
Ben: And it's not cheap, either, to get movers. So anyway, not a fun process, but I'm glad you're getting settled in there in Orange. And if you need to get in touch with Ryan, again, phone number's still the same, 714-462-9155, and you could also find them online at CravitzFinancial.com.
Now, today we're going to take a little different spin on the 401(k). Ron, we know it's a very popular way to save. Many people use that to invest and get to retirement, but we're going to be a little counterintuitive today and talk about why you should not invest in a 401(k). And again, this is not necessarily advice for you specifically, but just some things to think about and reasons why maybe somebody would not choose a 401(k), may not be the right fit for them, as they say, for retirement. So a little bit of a fun change of pace here and going against the grain a little bit, Ryan. So I'm going to throw out some different reasons here, and you explain why you might not want to invest in 401(k), if this is the case. All right, so first one here is if you don't have an emergency fund, and I guess this is because this needs to be a priority, right?
Ryan: It definitely does, and you're right, to go back to what you were saying. We're definitely going against the grain a little bit here, because it's so much ingrained in everyone's mind that you have to contribute to a 401(k) if you're still working. Invest as much as you can, and it'll pay off in the future. But the reality is that there's a lot of other things that you have to consider, as well, and like you said, one of those is you have to have an emergency fund.
If you've got money in a 401(k) and you're under 59 and a half, you're still working, and you need access to get to that money, you know, you can't just go down the bank like you would if you had a checking or savings and just get that money that you need for a quick emergency. If the roof leaks or the car breaks down or things like that, you've got to have some money in there. At a bare minimum, you have to have three months of income, but for many people it makes sense to have six months to sometimes even 12 months of income. It's all going to depend upon your particular circumstances, where you're working, how secure is that job, things of that nature. So there's a lot to factor in, that's for sure.
Ben: So minimum three months is kind of the general guidance you provide someone, but obviously, case-by-case it could be a little bit different.
Ryan: Yeah, for sure. I really like closer to six months as the minimum, but I think a good example is if you have a very secure job, maybe you work for the government, and it's a very secure, you know that you're going to be there, maybe three months is going to be okay. But if you're in a less secure job, let's say where there's a higher likelihood that you may be let go and that it could take a little while to find new employment, you want to make sure that you have some money kind stashed away to pay the bills for a period of time to give you that flexibility, because if you have to a access that 401(k) while you're working there, you may be able to take loan, but that's not ideal, certainly not, and if you're not working there and you now have to go access that, then you got to worry about the 10% penalties if you're under 59 and a half and all that. So bottom line, make sure you have enough just kind of stashed away in emergency reserve.
Ben: All right, good to know. So that's the first reason why you might not want to invest in a 401(k) right now. Put away some more into your emergency fund. All right, number two, if your employer doesn't match contributions, why would this be a reason not to go into the 401(k)?
Ryan: And the thing here is you may still want to contribute to the 401(k), but you want to consider how much you're going to contribute, because just because you're offered a 401(k) at work, it doesn't necessarily mean that that's going to be the best place for you to go ahead and save and invest that money. Depending upon how much you're planning to put away each year, maybe it would make more sense to contribute to an IRA or a Roth IRA if you qualify income-wise and such, or maybe even a taxable account in some circumstances. So each person's situation's going to vary, but you do want to take a look at, for instance, within the 401(k), you're often limited with the investment options that are available to you. So if you're not getting the match and there's not a lot of good options that are available there, you may want to consider doing something else with that money. So again, this is a case-by-case basis for everybody.
Ben: All right, talking about reasons why you shouldn't invest maybe in a 401(k). The next one seems like it might be obvious, but if you're swimming in debt, Ryan, maybe your money's better served paying that off rather than putting into a 401(k).
Ryan: Yeah, a hundred percent, especially if we're talking about consumer debt. If you have money on credit cards that you're paying high interest on, you definitely want to make sure that you're paying that off first. I mean, there's an argument to be made where you would want to take advantage of the free money, the matching money, so to speak, in a 401(k), but contributing beyond that, if you're paying high interest on credit cards like 17, 20, 22% and beyond, you want to pay that off because that interest rate is just way too high. On the other hand, if we're talking about a mortgage, as for instance, just a couple of years ago people were locking in like 3% mortgages on a fixed rate. There may be no need to have to pay that off. You may want to keep that with you and just continue to pay that off as it goes because the interest rate is so low. So you definitely want to identify what the particular debt is and what the interest rate is on it.
Ben: Yeah, I mean, if a lot of people maybe got a 4 or less or below interest rate on their mortgage, you might want to keep that around and invest, because a lot of times you can obviously outpace that. But yeah, that credit card debt, what is that, around 18 to 25% sometimes?
Ryan: It is, and in the crazy thing is is let's say you earn 8% or 10% investing over the long term, as an example, but you're paying 20% in credit card interest, you're not doing yourself a whole lot of good. It's better, instead of investing that money, just to go ahead and pay off that 20% credit card interest rate. I mean, that's just way too high.
Ben: All right, let's go on to number four, reasons why maybe you should not invest into a 401(k), and that's if you're worried about future tax increases. So Ryan, what would be the approach here if that is your concern?
Ryan: Yeah, so the big thing here that happens is many people have done a very good job. They've been very diligent about saving and pre-tax retirement accounts over the years, and that's all good. The issue though becomes is that at some point... We all hear of diversification when it comes to investments, but at some point we look so non-diversified when it comes to taxes because in retirement we can see that all or almost all the income that we're going to get is going to come from the 401(k).
So you may want to consider, for instance, if your company has a Roth option where you could invest after tax, maybe you want to invest a portion into that, or maybe you even want to just consider investing in a taxable brokerage account, because maybe the dividends and the capital gains that you have to pay taxes on may be less than what you're going to have to pay taxes on the 401(k), because that's going to be taxed at ordinary income. So you know, you just want to think through these things based upon your individual circumstances and what your tax picture is likely to be in the future, and making sure that the decisions that you're making today are reflective of that.
Ben: All right, got a few more here I want to run by you. What about if you no longer work for a certain company? You move jobs, and oftentimes people have that 401(k), and the money's still there, but is it better off to not leave that money in the 401(k)?
Ryan: For a lot of people, it'll make sense to roll that money over into an IRA, especially as you get into retirement, because just for the sake of simplicity, I've seen situations where people have three or four different 401(k)s that they just kind of have out there, and they get closer and closer to retirement. And number one, again, you're kind of limited in the options that you have that are available there. Number two, it's harder to keep track of what's going on with those accounts, and by consolidating those, by rolling them over into an IRA, it does have the advantages of giving you a lot of options in which to invest in.
And also you get to have some control over your money because you can take all the different 401(k)s... Let's say you have three or four different 401(k) accounts. You could roll them all over into one IRA. And just for the sake of simplicity, it helps to keep things easier to track and also to make sure that the portfolio, the investment portfolio that you're creating around that, makes sense and that it matches with your particular needs for income in the future. The other thing is when you get hit with RMDs, the required minimum distributions, it'll make it a lot easier to manage when you have less accounts, for sure.
Ben: All right, a couple more here, Ryan. What about liquidity being a big issue, I guess, with 401(k)s, right? You invest that money. The goal should be to not touch it until retirement. Obviously there might be circumstances where you need to, but that should be the intention when you put that money in. So if you're going to need the money before retirement, maybe it's a good idea not to put it in a 401(k).
Ryan: Yeah, and I think this kind of goes back to the emergency reserve point that we were making earlier. One of the mistakes that I've seen people make is they hadn't done a real good job of making sure that they had the emergency money there, just that three, six, maybe 12 months of income like we were talking about in a checking or savings, and then they lose their job, and they get put in a position where they're trying to find new employment. It's taking a while, and then they have to liquidate that 401(k), and being under 59 and half, they have to pay a 10% penalty, and then they have to pay taxes on that money. And so that's really not the ideal situation.
So again, it's just about making sure that you have the money that you need set aside for liquidity, easy accessibility when you need it. Again, the roof leaks, the car breaks down, you need to just have money to pay the bills for a while until you find a new job. You need to make sure that you have some money there, because again, yeah, if you need to access that 401(k), you're going to get hit with penalties and taxes and things like that.
Ben: All right. Got a couple more here, actually, just one more I want to give you, Ryan. So if you have any concerns about the structure of the plan... This could be any wide variety of concerns you might have, control, flexibility, limited investment options. If you have any concerns, maybe you shouldn't invest. And to me, when I hear this one, Ryan, I never thought about looking too much into it. I've always just assumed, "Hey, if my company has a 401(k), it probably makes sense to put money into it," but are there times where people actually dig in and feel uncomfortable?
Ryan: Well, there's definitely times where some 401(k)s are better than others as far as the options that are available. Each plan is unique, and unfortunately, sometimes in working with clients and taking a look at their 401(k) plans, you're trying to do your best to allocate that money appropriately for them, and sometimes it's just kind of limiting in what the options are. But that will also factor into your decisions on whether you even want to make contributions to that 401(k) or future contributions to that 401(k) or not.
Ben: All right, well, again, this is just some of the reasons why you might not. If you have questions whether or not you're making the right investments or if you're putting your money in the correct place, you can always reach out to Ryan at Cravitz Financial, online at CravitzFinancial.com, or over the phone is 714-462-9155. And again, Ryan, we're not saying that you shouldn't be investing in a 401(k), but not every tool is going to work for every person, so you always want to think critically before you invest.
Ryan: That's absolutely right.
Ben: Well, outstanding. Well, thanks for your time today, Ryan, and we appreciate you listening to this episode of Candid Conversations, Retirement Talk with Ryan Cravitz. We hope you have a good month, and we'll talk to you soon.
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