Friday, June 10, 2011

401k

‘Never invest in a business you cannot understand.’
-Warren Buffett
If your company offers a 401k, use it. This is a great tax deferred investment tool made even better if your company matches your investment. Still there are things to watch out for says money.msn.com.

1. How much is the employer really matching?
Some companies require a vesting period of 3-5 years and won't match a penny until you've worked for them that long. They may show matching dollars in the quarterly statements but they reserve the right to take it back if you leave the company too soon. Also find out if there is a maximum your company will match or if the matching ratio is not 1-1.

2. You may borrow against your 401k BUT...
If you quit, are laid off or fired, you may be required to pay back the 401k immediately. Not what you want to hear when unemployed.
And if you can not pay it back? Then the IRS counts the loan as an early withdrawal with taxes and 10% penalty.

3. If you 401k is less then $5000 when you leave the company...
the company has the option to cash out the plan instead of holding on to it or rolling it over to a new 401k for you. If cashed out you have 60 days to find a new 401k or IRA or the IRS will impose tax penalties for early withdrawal.

4. Your 401k funds might charge a load
If your company is small, the investment house managing the 401 might charge a front-end load, often 4%, for every investment.  This is not acceptable - especially since the same company will also be charging administrative fees to your account. I try never to buy a load fund. Lobby your employer to move to Fidelity or Vanguard or similar 401k provider which do not charge loads.

5. Avoid tax-advantaged investments in a 401k
A 401k is already tax deferred. There's no reason to use it to buy a fund whose goal is to minimize taxes. The goal should be to make the most money you can in the 401k and pay the taxes on it at a lower tax bracket when you've retired.

Bottom Line

Watch out for the hidden fees and gotchas when investing. Read and understand what you're buying.

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