Yes, Virginia, It Still Makes Sense To Save For Retirement Through A 401(k) Plan
A recent opinion piece published by Bloomberg asserts that 401(k) plans no longer make sense for savers due to high fees and changes in tax laws. And just like the little girl in the classic Christmas tale, “Yes, Virginia, There Is a Santa Claus” who began to doubt the long-held belief that Santa was real, some savers may be starting to wonder whether 401(k) plans are an effective investing vehicle.
Don’t let those doubts get the better of you: The Bloomberg article’s conclusion is very misguided, and it misses the main advantages of 401(k) plans. Let’s see why.
Most 401(k) plans have lower fees now than in the past
The simple fact is that 401(k) plan fees overall have decreased dramatically since the plans were first implemented in the 1980s. See for yourself: Just do a Google search using the term “401(k) fees decrease,” and you’ll see a spate of studies and articles on the topic supporting this fact.
Yes, it’s true that fees in some 401(k) plans of small employers—those with under 100 participants—have comparatively high fees. But 401(k) plans of large employers—those with 1,000 participants or more—can have very low fees, particularly for index funds. For these plans, it’s entirely possible to see annual fees under 0.10%.
A blanket headline saying that it doesn’t make sense to save in a 401(k) plan is like saying you shouldn’t ever eat apples because a few are rotten. When you eat an apple, you look it over to make sure it’s ripe and edible, then you take a bite. Likewise, before you begin saving to a 401(k) plan, you should review the required fee disclosures. Be sure to look for funds with fees under 0.50%, and the lower the better.
If you’re working for a small employer, it’s possible that you might find that their plan has higher fees. In that case, it might still make sense to contribute if your employer matches your contributions. But if there is no match, you’d be better off finding a low-cost IRA for your retirement savings.
Taxes aren’t the main reason to save in a 401(k) plan
Yes, the tax advantages of 401(k) plans have diminished somewhat because income taxes have dropped significantly since the 1980s. But reducing your income taxes isn’t one of the main reasons you should save in a 401(k) plan.
Here are best reasons to save in a 401(k) plan:
- If you receive a matching contribution from your employer, it’s a no-brainer to contribute up to the maximum amount that the employer matches.
- A 401(k) plan makes it easy for you to save for retirement by making contributions via payroll deduction.
- 401(k) plan sponsors do the investment shopping for you by offering a menu of investment options. Most employers take that responsibility quite seriously, since they’re acting in a fiduciary capacity. With an employer’s 401(k) plan, your odds of being defrauded or sold inappropriate investments are extremely low, compared to shopping on your own in the retail world.
Study after study shows that the availability of a savings plan at work is one of the most significant factors that helps you arrive at your retirement years with sufficient retirement savings.
And by the way, if you think that income taxes are currently low and could increase in the future, you should determine whether your plan offers a Roth feature. This option subjects your contributions to taxes today and allows you to make withdrawals tax-free when you retire, which is the opposite of the tax treatment of traditional 401(k) plan contributions. Roth contributions are becoming quite common in 401(k) plans.
By the way, my fellow Forbes.com contributor Erik Carter agrees that saving for retirement with a 401(k) plan still makes sense, and he offers even more advantages that they offer.
Are 401(k) plans the perfect retirement plan?
401(k) plans have improved and evolved significantly since they were first introduced in the 1980s. These improvements are due to both laws and regulations that have enabled significant improvements in the plans, such as auto-enrollment and default investment options, as well as good old American capitalism at work as 401(k) providers compete for business.
However, there are still important improvements to be made with 401(k) plans. If they would begin to offer methods to convert your savings into streams of retirement income, they would evolve from simple retirement savings vehicles to true retirement plans. Most 401(k) plans currently don’t offer very robust retirement income options.
If you’re approaching your retirement years, read your 401(k) plan’s summary plan description to see if your plan offers retirement income options. If it doesn’t, politely ask your employer to look into that. A carefully designed retirement income menu can be a godsend to older workers who are trying to decide if they have enough money to retire and how they should deploy their savings in retirement.
If you’re on your own with respect to converting your savings into retirement income, all is not lost. There’s been substantial research completed lately on this important task at the Stanford Center on Longevity (SCL). This topic has not only been the subject of my research at SCL but also my latest book, Don’t Go Broke in Retirement.
So, yes, Virginia, in spite of some of their current shortcomings, 401(k) plans are almost as good for retirement savers as Santa Claus is for kids. What’s even better is, 401(k) plans aren’t a figment of your imagination!