401(k) Money Moves to Make Before the End of the Year
Participating in your company’s 401(k) plan is an excellent way to save for retirement.
A 401(k) isn’t something that you should just sign up for and forget about, though. There are some things you will need to periodically review to make sure you are getting the most benefit from your savings.
The middle of the year is a good time to check in on your 401(k) and update anything that needs to be adjusted. Here are a few key items to think about.
Review Your Contribution Rate
You decide how much you contribute your 401(k), and you had to make an election when you initially signed up. Most plans allow you to choose either a fixed dollar amount per pay period or a percentage of your pay.
It’s a good idea to review your contribution amount each year. You may not need to make any changes, but there are a couple of common reasons you might.
- Your compensation may have changed over the year. If you’ve received a raise, had your hours cut, or anything else that would affect your income, then it may make sense to adjust your 401(k) contribution accordingly.
- Contribution limits could have changed as well. Every few years, and sometimes each year, the IRS raises the limit on 401(k) elective deferrals. If you plan to max your 401(k) each year, you’ll want to increase your contribution to meet the new limit.
Update Your Plan Election
Many 401(k) plans offer both a traditional tax-deferred saving option as well as an option to make Roth contributions. Roth 401(k)s provide you with an opportunity to build a significant amount of savings that you can withdraw tax-free in retirement. Roth 401(k)s can be a good choice, but they aren’t necessarily the best choice for everyone.
According to the Plan Sponsor Council of America, 23% of employees choose to make Roth contributions when the option is available.
If you aren’t sure if your own plan allows for Roth contributions it is a good idea to check. If you do have the option, consider if switching to a Roth is the best move you for you.
Two significant benefits that a Roth 401(k) have over Roth IRAs are:
- The annual contribution limit is much higher. Roth 401(k)s allow someone under 50 to defer up to $19,500 of their salary, while the limit on a Roth IRA is $6,000. For people 50 and over, those numbers jump to $26,000 and $7,000 respectively.
- The ability to make Roth 401(k) contributions is not phased out based on income. By contrast, a married couple that files a joint return cannot make a Roth contribution if their modified adjusted gross income is over $208,000.
The best choice for you will depend on your own situation, and specifically hinge on your current tax bracket and future expected tax bracket in retirement. Taxes can be complicated, so get help from a financial planner or tax professional if you need to. You should also use a retirement calculator periodically to make sure you’re still on track to have enough money to retire with.
Rebalance Your Investments
Your asset allocation — how you choose to divide your investments between different asset classes such as stocks and bonds — has been shown to be the most significant factor in your investment performance.
Your asset allocation should be carefully chosen to give you the best shot at achieving your savings goals. It should reflect your comfort level for things like risk and security and incorporate the remaining time you have until you plan to retire. Your plan provider likely has a questionnaire that will help guide you to the right choice.
Once your asset allocation is chosen though, it will shift as your investments naturally fluctuate with the market. Minor shifts are ok and expected, but you will need to periodically adjust your portfolio to put it back in balance.
Most plan statements will show you a breakdown of your asset allocation, and many will even show a side-by-side comparison to the asset allocation of your elections. If yours doesn’t, you can check it yourself by calculating the percentage of each your holdings to your total balance and comparing it to your target allocation.
You can realign your investments by logging in to your account online and making the required changes or you can call the 401(k) provider and have someone help you.
Reviewing your account once a year and making the required adjustments will help you stay on track for retirement.
Check Your Plan Fees
If you participate in a 401(k) plan you incur some level of expense. Some fees are plan-related and help cover the costs of providing and administering the 401(k) plan, while others are directly associated with the investments themselves.
As an employee participant you don’t have much say in the plan-level fees. However, you do have the ability to choose the most cost-effective investment options within your employer’s plan. That’s good because investment fees are the single biggest source of expense for most 401(k) plan participants.
Mutual funds are the most popular investment vehicle in 401(k)s. That makes expense management easy because to get a good idea of the cost of owning a mutual fund you simply need to look up the expense ratio. Expense ratios express the cost of owning a fund as a percentage of value of a fund. For example, an expense ratio of .50 means that you’ll pay $0.50 in fees annually for every $100 you have invested in the fund.
You can find expense ratios by looking up the fund on the fund family’s website, and it’s probably available in your plan documents as well.
Take a look at the investments you hold and compare their expenses to the expenses of the other choices within the plan. If you see comparable alternatives with lower costs it may make sense to switch them out.
Fund expenses can change over time so it doesn’t hurt to review this annually.
Make Sure You are Getting the Full Match
Lastly, make sure you are at least contributing enough to get the full employer match. Most plans provide for an employer to make matching contributions on your behalf up to a certain percentage of your salary. This match is some of the easiest money you will ever receive.
Check your statements at the end of the year and you’ll see how much you have contributed and how much your employer has contributed on your behalf.
If the employer match does not equal the maximum possible, you should increase your own contributions.