According to Bloomberg, more than two-thirds of the U.S. population don't regularly make contributions to the 401(k) offered through their employer. Even if you are contributing to your plan, are you making the most of what's offered? Our 401(k) advisors suggest asking these five questions about your company's 401(k) retirement plan.
1. Does my employer match contributions to my 401(k)?
We put this question first for a reason: If your employer offers matching contributions, it's like free money in your account. Employer matching contributions can help grow your savings substantially, so it's important to take full advantage of this perk. Many employers will match up to a certain percentage of the contributions you make to your account. For instance, imagine you make $50,000 per year and contribute five percent of your salary, or $2,500 to your 401(k). Your employer matches 50 percent of the contributions you make, or $1,250. That match will make a big difference in your account over time.
Takeaway: If you're not contributing the maximum allowed to your employer-matching 401(k), it's almost like throwing away money. Now's the time to start.
2. How are my 401(k) funds invested?
Do you know how your company invests employee retirement plans? Most employers will offer a range of investment options, such as stocks, bonds, mutual funds or guaranteed investment contracts. For many investors, choosing a more aggressive investment planning approach when younger and shifting to a more conservative, less risky approach later in life makes the most sense. Your 401(k) advisor can help you determine which investment approach works best with your comprehensive financial plan.
You'll also want to inquire whether you have access to a "full brokerage" account. While this option isn't common, it does allow for allocation of investments across a range of asset types, such as a mix of stocks, bonds, ETFs and mutual funds, thus helping to diversify your portfolio. What if you don't like any of the options offered by your employer? Ask if they will allow you to do a partial 401(k) rollover, or move a percentage of funds into another retirement account.
Takeaway: Tailor your investments to meet your time horizon and risk tolerance, and aim for diversified asset allocation when possible.
3. What's the expense ratio?
Along with asset allocation, ask about your 401(k) investment options' expense ratios. Many investment options, such as mutual funds, charge a fee known as an expense ratio; this cost is based on a percentage of the fund's average net assets and is passed along to investors. It may cover administrative, marketing and recordkeeping fees, along with other operating expenses. High ratios will cut into your earnings, so research the expense ratios associated with your 401(k) investment options. Keep in mind that even investments with high returns may not be the best choice, if a high expense ratio comes along with it.
Takeaway: High expense ratios will negatively affect your earnings, so choose investment options with low ratios.
4. When will I be vested?
The contributions you make to your 401(k) are 100 percent vested; that means they're yours to keep, even if you leave your employer. However, matching contributions made by your employer may not be yours until you meet a vesting requirement, usually a period of time spent working for the employer. Two types of vesting schedules are:
- Cliff - Employer's contributions are 100 percent vested over a certain period of time
- Graded - Employer's contributions are vested over time, such as 25 percent after a year, 50 percent after three years, and so on
Takeaway: Research your company's vesting requirements to avoid any surprises.
5. When can I take distributions?
In most cases, you can start taking distributions at age 59 1/2 without penalty. You are required to take minimum distributions the year after you turn 70 1/2. Generally, if you withdraw funds before age 59 1/2, you'll have to pay a penalty tax. In some cases, you may take distributions early without penalty, such as:
- Death (distribution to beneficiaries)
- Funeral or burial expenses
- Buying a first home
- Certain home repairs
- Certain medical expenses
- Avoiding foreclosure
- Paying for higher education
Takeaway: Avoid paying penalties; don't withdraw funds from your 401(k) until after age 59 1/2 if possible.
Got more questions? Set up a meeting with your 401(k) advisor; they can help you find the right solutions to your retirement needs.