Why a 401(k) isn’t the wonderful savings tool you think it is


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Most 401(k)s offer a mix of actively managed mutual funds and index funds, which are passively managed.

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Many people save for their senior years in a 401(k) plan and for a variety of reasons. For one thing, many employees have easy access to a 401(k) through work, and so it’s easier to sign up for one of these accounts than to go out and open an IRA.

Another benefit of 401(k)s is that they come with a higher annual contribution limit than IRAs. Right now, savers under age 50 can contribute up to $19,500 per year to 401(k), while the annual contribution for workers in that age range is up to $6,000 per year for IRAs. And for savers 50 and older, the 401(k) limit is currently $26,000 per year, compared with $7,000 per year for IRAs.


Here’s Why 40% of 401(k) Savers Might Lose a Lot of Money

But despite these perks, a 401(k) plan may not be your best bet when it comes to finding a home for your retirement savings. Why over here

1. Investment options may be limited

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When you open an IRA, you are usually given the option to choose stocks for your retirement portfolio. Doing so can help you put a lot of fundraising into your retirement planning, especially if you know how to research companies well.

With a 401(k), you generally cannot invest in individual stocks. This limits your options and can lead to situations where the options presented to you do not align with your personal strategy or goals.

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2. Fees may be high

Most 401(k)s offer a mix of actively managed mutual funds and index funds, which are passively managed. Index funds typically charge much lower fees than actively managed funds, known as expense ratios, but you may not have much to choose from in your employer’s plan. As such, you may be stuck paying higher investment fees than you would like.

In addition, 401(k) plans come with administrative fees that are generally not negotiable. The administrative fees you pay with an IRA are usually very small.

3. A Roth Option Is Not Guaranteed

These days, a growing number of 401(k)s include a Roth savings option, which allows you to enjoy tax-free benefits in your account and tax-free withdrawals during retirement. But not all 401(k) plans have a Roth version, and so you may end up saving in a way that doesn’t completely work to your advantage in terms of taxes.

No 401(k)? Save for Retirement in 1 of These Accounts Instead

On the other hand, with an IRA, putting your money in a Roth savings plan is an option one way or another. If you make too much money to contribute directly to a Roth IRA — there are income limits that change from year to year — you can always fund a traditional IRA and then convert it to a Roth.

Many savers do well enough to house their retirement cash in a 401(k). But don’t assume that a 401(k) is the best savings tool for you. There are a lot of drawbacks associated with 401(k)s, and if you’re not particularly happy with yours, there’s no point in sticking with it.

What you should do in that case is contribute enough money to your 401(k) to withhold your full employer match, if one is offered, but then put the rest of your savings into an IRA. Doing so can help you make more reasonable investments, avoid higher fees, and enjoy the benefits of the Roth savings option.

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