What Your Company Forgot To Tell You about Your 401(k)
If your company is like most U.S. corporations, they forgot to tell you something very important when they were passing out the 401(k)s.
In fact, it's so important that I'd call it "a life changing event" and that's not a term I use lightly.
But I'll get to that in just a moment. First, let me briefly recap why properly planning your retirement has gotten even more critical lately.
Why Most Retirement Plans Are in Bad Shape
For starters, the first Baby Boomers just passed the "60" milestone birthday last year. This means the largest generation in the history of the U.S. is now approaching retirement age. And according to the statistics, most haven't saved enough - especially when you consider people are living longer these days. If you're 65, you have an 84% chance of reaching 85.
It is going to cost a lot more to live during your retirement than you think. With inflation, rising energy prices, healthcare costs, and a falling dollar, your "golden years" are getting more expensive by the day.
The aging boomers are the largest percentage of registered voters. This means this large chunk of the voting population will be petitioning Congress for higher social security, health benefits, etc. As a result, the government will probably raise taxes to meet their demands. If you're not currently ready for retirement, this means you will be losing more of your nest egg to taxes.
Why 401(k)s Can Be a Waste of Time
The sad fact is that 401(k)'s are just not as useful as they could be.
The investment options are pathetic. In fact, at least 99% of the 401(k) plans I have seen have artificial investment restrictions. Most investors also don't get enough advice about how to invest their 401(k) plans. Those who do receive advice generally receive bad advice. Not to mention, the fees are ridiculously high.
But fortunately, there are things you can do about your 401(k) to make it work for you.
For starters, there is no law that prevents you from having a self-directed option in your 401(k) plan. There is also no law that says you are limited to some predefined list of poor performing mutual funds.
New Pension Protection Act of 2006
The new Pension Protection Act (PPA) of 2006 specifically allows you to receive investment advice as a 401(k) participant from "a fiduciary advisor." The new PPA also says you can self-direct your plan.
The new PPA allows for computer model investment advice programs that take into account all relevant information about you as the participant and your wealth-building goals. It also factors in risk tolerance, etc. The full range of investments including stocks and bonds, and allows you flexibility in obtaining advice to select investment options.
The new Act mentions foreign currencies and foreign exchange transactions several times as they are related to purchasing investments.
So it's clear the new PPA is trying to encourage, if not outright demand that 401(k) plans offer a much wider range of investments. That's why it allows for individual investment advice and self-directed accounts. Why else would it include such language?
If I was your plan provider or administrator, I would really be sweating about now. Why? Because I forgot to tell you all these important stuff about your 401(k)! You see, most of the mandates in this new PPA always existed. But some plan administrators have taken the easy way out and have artificially prevented you from investing your account the way you want to (with appropriate advice and education of course).
So this begs the question, if I could invest my 401(k) like I wanted to, what could I do?
If the Sky's the Limit - What Can Your 401(k) Invest In?
Well it is actually easier to start off by telling you what you can't do with your 401(k). Basically, you can't own certain collectibles, like a wine collection or antique cars, and you can't engage in what is called self-dealing. This includes owning the land your business is operating from. (As always, there are exceptions to these rules, see http://www.dol.gov/ for additional information on blanket exemptions.)
Let's start out with some simple examples.
You know all of those mutual funds in your plan with really high internal expense ratios? Did you know most of them exist as exchange traded funds (ETFs), but with very low internal expenses? That in and of itself could add between 1-2% a year to your return.
Want to reduce your exposure to risk? You can invest in principal protected notes that allow you to invest in many different market indices or even foreign currencies. With these notes, you have a guaranteed return of principal, plus all of the upside potential.
Think about how much wealth has been lost because of market fluctuation. If just 25% of your portfolio had the potential to go up in value with no downside risk, there would be significantly greater wealth in many people's plans.
Location, Location, Location
You can even use your 401(k) to invest in real estate.
Yes, I know the real estate bubble has burst. But eventually you may want to use your 401(k) to snatch up some of these properties at fire sale prices. You buy virtually any type of real estate with your 401(k) including raw land, apartment buildings, single-family homes etc.
Oh and did I mention it doesn't have to be just U.S. real estate? You could buy a piece of beachfront property in Mexico or a ski lodge in the Alps with a portion of your retirement plan.
And it doesn't stop there. You can protect yourself from the now plummeting dollar by diversifying your retirement plan into multiple currencies. You can do this by buying a Certificate of Deposit (CD) in another currency. Or you can just invest in other currencies.
The rules allow it, but your administrator hasn't told you yet. Have you always wanted a foreign bank account but you were worried about the potential tax problems? Yep, you guessed it, open it up in your retirement plan where it is legal and tax deferred.
In fact, it's so important that I'd call it "a life changing event" and that's not a term I use lightly.
But I'll get to that in just a moment. First, let me briefly recap why properly planning your retirement has gotten even more critical lately.
Why Most Retirement Plans Are in Bad Shape
For starters, the first Baby Boomers just passed the "60" milestone birthday last year. This means the largest generation in the history of the U.S. is now approaching retirement age. And according to the statistics, most haven't saved enough - especially when you consider people are living longer these days. If you're 65, you have an 84% chance of reaching 85.
It is going to cost a lot more to live during your retirement than you think. With inflation, rising energy prices, healthcare costs, and a falling dollar, your "golden years" are getting more expensive by the day.
The aging boomers are the largest percentage of registered voters. This means this large chunk of the voting population will be petitioning Congress for higher social security, health benefits, etc. As a result, the government will probably raise taxes to meet their demands. If you're not currently ready for retirement, this means you will be losing more of your nest egg to taxes.
Why 401(k)s Can Be a Waste of Time
The sad fact is that 401(k)'s are just not as useful as they could be.
The investment options are pathetic. In fact, at least 99% of the 401(k) plans I have seen have artificial investment restrictions. Most investors also don't get enough advice about how to invest their 401(k) plans. Those who do receive advice generally receive bad advice. Not to mention, the fees are ridiculously high.
But fortunately, there are things you can do about your 401(k) to make it work for you.
For starters, there is no law that prevents you from having a self-directed option in your 401(k) plan. There is also no law that says you are limited to some predefined list of poor performing mutual funds.
New Pension Protection Act of 2006
The new Pension Protection Act (PPA) of 2006 specifically allows you to receive investment advice as a 401(k) participant from "a fiduciary advisor." The new PPA also says you can self-direct your plan.
The new PPA allows for computer model investment advice programs that take into account all relevant information about you as the participant and your wealth-building goals. It also factors in risk tolerance, etc. The full range of investments including stocks and bonds, and allows you flexibility in obtaining advice to select investment options.
The new Act mentions foreign currencies and foreign exchange transactions several times as they are related to purchasing investments.
So it's clear the new PPA is trying to encourage, if not outright demand that 401(k) plans offer a much wider range of investments. That's why it allows for individual investment advice and self-directed accounts. Why else would it include such language?
If I was your plan provider or administrator, I would really be sweating about now. Why? Because I forgot to tell you all these important stuff about your 401(k)! You see, most of the mandates in this new PPA always existed. But some plan administrators have taken the easy way out and have artificially prevented you from investing your account the way you want to (with appropriate advice and education of course).
So this begs the question, if I could invest my 401(k) like I wanted to, what could I do?
If the Sky's the Limit - What Can Your 401(k) Invest In?
Well it is actually easier to start off by telling you what you can't do with your 401(k). Basically, you can't own certain collectibles, like a wine collection or antique cars, and you can't engage in what is called self-dealing. This includes owning the land your business is operating from. (As always, there are exceptions to these rules, see http://www.dol.gov/ for additional information on blanket exemptions.)
Let's start out with some simple examples.
You know all of those mutual funds in your plan with really high internal expense ratios? Did you know most of them exist as exchange traded funds (ETFs), but with very low internal expenses? That in and of itself could add between 1-2% a year to your return.
Want to reduce your exposure to risk? You can invest in principal protected notes that allow you to invest in many different market indices or even foreign currencies. With these notes, you have a guaranteed return of principal, plus all of the upside potential.
Think about how much wealth has been lost because of market fluctuation. If just 25% of your portfolio had the potential to go up in value with no downside risk, there would be significantly greater wealth in many people's plans.
Location, Location, Location
You can even use your 401(k) to invest in real estate.
Yes, I know the real estate bubble has burst. But eventually you may want to use your 401(k) to snatch up some of these properties at fire sale prices. You buy virtually any type of real estate with your 401(k) including raw land, apartment buildings, single-family homes etc.
Oh and did I mention it doesn't have to be just U.S. real estate? You could buy a piece of beachfront property in Mexico or a ski lodge in the Alps with a portion of your retirement plan.
And it doesn't stop there. You can protect yourself from the now plummeting dollar by diversifying your retirement plan into multiple currencies. You can do this by buying a Certificate of Deposit (CD) in another currency. Or you can just invest in other currencies.
The rules allow it, but your administrator hasn't told you yet. Have you always wanted a foreign bank account but you were worried about the potential tax problems? Yep, you guessed it, open it up in your retirement plan where it is legal and tax deferred.
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