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More about 401(k)s

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A couple of times in the past I've commented on traditional retirement plans like the 401(k). (Here are those links: The 401(k) Argument and Should You Reconsider Your 401(k)?) At the recent Gold vs The U.S. Dollar 3-day event I learned of some additional aspects of 401(k)s that I haven't talked about before, and I'd like to share those with you.

[Note: Although I reference the 401(k) specifically here, many of these same issues exist for similar plans in the U.S. and abroad (for example, the IRA in the U.S., the RSP in Canada). Do your homework to learn all the pros and cons about whatever plan you are invested in.]

One thing to consider is taxes. When it is time to take distributions from your account when you retire, that money will be taxed at the highest rate. Also, you will probably have less tax deductions when you retire (no kids, your mortgage will probably be paid off, that sort of thing). And then there's the unknown answer to the question: Will tax rates have increased by the time you retire?

Another thing I don't like about government-regulated retirement plans is that the government limits what you can invest in. In the U.S. you are limited to certain "qualified" investments. This not only limits your investment options, it means the government can change the law about what you can invest in through your retirement plan.

The government also controls when you can and must take money out of the plan. With a 401(k) you are charged a 10% penalty to withdraw money before the age of 59-1/2, in addition to the taxes you must pay. Then you are required to withdraw money after age 70.

What this all boils down to is that your control in a 401(k) is severely limited by the government. Generally speaking, if the government sets the rules for your retirement plan, then the government is in control, not you. When you add to this the fact that in most retirement plans you put up 100% of the money, take 100% of the risk, and get 20% of the returns, 401(k)s just seem like a lousy option to me.

If you want to take back control of your retirement funds, I encourage you to make sure you have a good alternative investment plan in place first. Find an investment vehicle that works for you and then plan how to maximize the returns on the money you have. I also encourage you to consult a tax advisor who can explain your options and help you navigate the tax code. Investing outside a 401(k) can bring much better returns, but it also requires greater financial knowledge. Learn what you need to know, then take action.

Original publish date: May 19, 2010

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