Should I investment in my 401k? Not if you can use these vehicles
For many individuals, the 401k, 403b, and 457 has been the "no-brainer" way to invest for retirement.
In this post, I want to discuss 3 creative alternatives for the management of your current 401k, 403b, or 457 balance, even if you are still working for your company.
1. The In-Service Transfer
Many company retirement plan provisions allow employees over the age of 59 and 1/2 to transfer the accumulated funds in their company retirement plan into their own self-directed IRA, even while they are still working for the company. The transaction is not taxable as long as the funds go to or are made out to the new investment custodian.
This allows participants the flexibility and options that come from their own self directed IRA instead of the handful of choices that the company retirement plan offers.
In addition, it allows participants the option to take the amount of risk that they want to as they get closer to retirement. Company retirement options can be either too volatile (equity investments) or too conservative (stable value allocations). The self-directed IRA allows you to craft your ideal strategy.
2. The New Self Directed 401k, 403b, and 457
Two in five employers are giving their employees the option to open their own self-directed brokerage account inside their company retirement plan instead of being limited to the core plan choices. Most of these accounts allow plan participants to hire their own third party investment advisor to manage the funds.
Why would plan sponsors allow this? In a word, "liability". This trend toward allowing another investment advisor to make plan decisions releases the fiduciary liability imposed by the Department of Labor's 404c stringent requirements. In the end it represents a win/win. The employee has more options and access to professional advice and the employer is released from greater fiduciary liability standards.
Unfortunately, this option is not well communicated to employees, or they just don't understand it. Investment companies such as Vanguard, TIAA-CREF, Fidelity, Schwab, Valic, Lincoln, Diversified, Great-West, Hartford, Security Benefit, Nationwide, Transamerica, TD Ameritrade, and ING are some of the company retirement plans who are participating.
A sampling of companies that offer the self-directed retirement plan are in the thousands, but include the County and City of Los Angeles, Kaiser Permanente, Southern California Edison, Home Depot, HP, AT&T, John Deere, Time Warner Cable, Aetna, United Health Care, Samsung, 3M, Oracle, and the list goes on and on.
Expect to see more and more companies move in this direction. If you are not sure if your plan participates, email me at email@example.com.
3. Investment Alternatives Funded by a 401k Loan
We generally think of 401k loans as risky. But you can actually use a 401k loan to reduce the overall risk of your retirement portfolio.
Most company retirement plans allow you to borrow up to 50% of the plan balance. These funds can be used to fund alternative, less volatile strategies in your own investment account.
This strategy is a little more sophisticated and has a few caveats.
If you are currently contributing to your 401k and receiving matching funds, you want to ensure that you can continue to do so if you have an outstanding 401k loan. Some companies allow it and others don't.
You also must realize that paying back the 401k loan will be done with after tax dollars. This will reduce the return that you receive from your alternative investment strategies. Depending on your tax bracket and your alternative investment strategies this may or may not be a viable option. (Remember that any investment advisory fees you pay could be tax deductible, through).
Finally, you need to structure your cash flow to make up for the decrease in tax home pay from your 401k loan repayment. This can be offset by setting a systematic distribution from your alternative investment strategy to your own bank account for an equivalent amount.
The result of the 401k loan investment strategy is that you are able to restructure about 40% of your total balance over the 5 year repayment period (since your alternative strategy account will be slowly depleting if you use it to repay you lost cash flow).
If you would like more information about implementing these investment strategies, please email me at firstname.lastname@example.org.
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