E46: How to Decide if 401(k) Match is Best For You

Nate: The 401(k) is probably the most common tool used by Americans today as they try to save for the future. In this episode, we will discuss the many questions you need to ask yourself first to determine if your 401(k) is a good fit for you or whether you should find a new home for your money. She’s Holly and she helps people find financial freedom.

Holly: He’s Nate. He makes sense out of money. This is Dollars and Nonsense,. If you follow the herd, you will be slaughtered.

Nate: The 401(k), you and I probably talked about it with someone almost everyday asking us what should I do with this? Should I keep paying into it? All these other things.

Holly, you and I have compiled some things you really need to consider to determine if it’s really the place that you want to go. I think most of us though, Holly, would probably agree that there are many, many inherent problems with the 401(k) just to begin with. The main redeeming factor in them is the employer match. Helping our audience understand how you can weigh in your own mind the issues that are inherent with them and compare it to what I guess I would call the good side of it and just be able to come to a determination of what they ought to do.

Holly: It starts with the very first question of why are you doing the 401(k)? Is this something you truly believe in? We talk a lot on our show about you want to be putting your money and doing stuff with your money into things you truly believe in, that are important and inherently valuable to you. If you truly believe that 401(k) is the way to go for you, then that’s the way to go and wholeheartedly embrace it and move forward.

But most of us in my communications with people that I’ve talked to on a daily basis are only doing the 401(k) because of the match or because everybody else is doing it and they don’t know what else to do. They get into their job. Oh. Are you going to do this or not? It’s like yes or no. Before they even realize what they’ve signed up for, they have a 401(k).

Nate: You ask them about their 401(k) and most of us really, be honest with yourself, we don’t know anything about what’s going on with the money in there or at least very little. Maybe we know if we’re in a high risk or low risk place, and we might know if the balance went up or down last quarter but that’s about it.

Holly: I don’t even know if it’s every quarter, Nate, as much as I get … Well, I get my annual statement and it says my average rate of return was this. Most of them don’t even necessarily know who their 401(k) is with. They’ve got to go ask the HR person who the 401(k) is with. I know I’m putting money in there. I know it comes out of my paycheck, but it goes back to that whole sense of because you’re not receiving the paycheck anymore, it’s just automatically taken out, and the other money is deposited in your bank account. You don’t even really pay attention to where that money is going or what it’s doing.

Nate: Overall, one of the biggest problems I’ve had with a 401(k) is that it’s like a false sense of success and security. You start funding it and you think you’re saving for retirement and you think it’s going to work out, but you have maybe a slight concern that’s not going to be enough or something. But I know a lot of people, they’re saving the 401(k). You might be concerned that you’re not going to have enough. I’m guessing most of you are. But in reality, it can give this false sense of at least I’m doing something and that’s better than nothing. You just stay stagnant and you probably are not going to have enough, but you haven’t known another way. There’s certainly many issues about the plan and about the mentality that comes from contributing to the plan and there’s very few benefits. Probably the main one, as Holly already mentioned, is, I am getting a match.

Today we’re going to talk about the questions you have to ask yourself to determine if you believe in it, to determine if it’s something you should do and how to really weigh when you include the employer match.

Holly: One of the reasons you hear people do it, Nate, is, well, it’s tax-deferred or the tax break I get. One of the questions around should I do the 401(k) or is it for me is do you believe taxes are going to go up or down? Can you reasonably predict in the next 10 or 20 years what’s going to happen with taxes and what that tax rate is going to be?

Nate: Holly, I don’t know if you’re like me. Most people who I’ve talked to understand that taxes probably are going to end up going up. We can’t guarantee it. I wish they wouldn’t. Recently with the tax plan, a lot of people are going to reduce taxes. Some people will have to increase. But we’re looking at a $21 trillion federal national debt that we run a deficit on every year so it’s continually growing. It’s going to have to be paid someday. You can’t run a deficit forever.

You have two options. You either have to raise taxes to even the budget out here, or you’re going to have to decrease spending. Which one do you think is more likely in the political environment that we’re in?

Holly: I’d say, Nate, just ask yourself, do you think at any point in time the government is going to reduce their spending, or are they going to shrink the size of the government? Because only those two things will reduce spending: shrinking the government and actually having a balanced budget of which they stay in and reducing all the money that we’re sending out there. I think it’s just going to be taxes are going to go up.

I don’t foresee us ever shrinking the government or actually getting the government to spend appropriately. The reason I say that is if you look at Americans in general, we are not even saving enough, but we’re doing exactly what the government is doing. Our government is overspending and we’re overspending. We’re definitely not living within our means.

Nate: I mean that’s the first question whenever you’re really doing any deferred tax program. The main draw that lead to put your money inside of that program is if you really think that you’ll be in a lower tax bracket and pay less tax when you pull the money out as opposed to when you put it in. I would encourage everyone here, there’s a book out there called The Power of Zero, which is a great book and it really details how to get into a 0% tax bracket in the future. It goes through the many reasons why that would be important versus deferring but actually how to get into a 0% tax bracket.

If you are sitting here and you’re listening, you say, “Yup. I think that tax will probably go up.” If you put into a 401(k), your social security income will most likely be taxable because you’re withdrawing from the 401(k). It’s boosting your income. Then your social security income, which can be tax-free, is going to probably be taxable. You’re out of deductions now. There’s so many things that can happen where you end up actually paying more taxes on the money as you pull it out than when you put it in. That’s never a good idea.

The second I guess you could say issue or something like that is that typically the 401(k) has the highest fees of any financial tool that you can find. You take a look at it. You have to pay the 401(k) management fees, the mutual fund fees and most of the mutual funds in the 401(k) are high-fee mutual funds because they know that you, as an individual paying into it, don’t care what’s happening in there, or you’re not going to pay enough attention. For better or for worse, the vast majority of the funds that are in the 401(k) have way higher fees than you need to be paying.

Holly: Often what you believe you were saving in taxes, you end up paying in fees anyways. It’s tax-deferred. Well, you’re going to pay that money somehow with the fees that are associated with it. Even though you might think, “Hey, taxes are going to go down,” or whatever your belief might be or I’m deferring it, the fees alone often end up being just as much as what you would pay in taxes.

Nate: I had a guy who was paying so much in fees that it was actually at least as much, if not more, on his balance than what his employer was contributing at the time. It was like his employer was paying for the fees. That’s what it amounted to at that point in time.

Holly: That’s actually true most of the time, Nate. I don’t think it’s just one individual that that’s happening with. I think if you actually looked at what your employer is matching with you and what’s being paid out in fees, you’d be shocked at how much is actually being contributed from your employer to the program because of the cost of the fees.

Nate: Just know you don’t have to talk to Dollars and Nonsense to know that the 401(k) has high fees. You have other problems like the fact that it’s invested in mutual funds and mutual funds rarely ever perform even as well as the market that they’re trying to match. It’s just very rarely happen.

You might have found a good one, but I’ve got a really close individual on my life who was in the 403(b). It’s like the nonprofit version of the 401(k). He was in it from 1992 to 2012 so 20 years, 21 years, something like that. If you run the numbers, the S&P 500 with dividends had an average return of over 9% over that 20-year timeframe. His return in his mutual fund was 4%. If you run the numbers, if he would have just taken the same cashflow, foregoing the employer match, just took the same cashflow that he would put in, no employer match at all, he would have actually had more money at the higher return if he were to just went in and got a low cost Vanguard fund or whatever. End up having more money even foregoing the match. It’s not just is it a good place to put your money? It’s also there’s very high chance that the mutual fund you’re in is really not going to perform that well. They rarely do perform as well as the market.

Holly: Do you want the average over 20 years or do you want the actual? Because the average like Nate said that was key was nine. The actual was four. In reality, his close family friend could have actually done better just doing a different program. I think that’s where we’re really trying to get you to think and also ask in that same breath what do you truly believe is going to happen to the market? What do you truly believe? Is the market going to crash? Is it going to go up? Are we headed for another 2008, 2009 scenario again where we’re going to go into a recession? What is really going to happen with your money? If you’re okay with whatever happens in the market to your money, what you have to ask yourself is will you be okay financially?

There are many people that thought they were going to be okay financially. They were in the safe program like Nate said, and then they realize that once the recession hit, they had nothing to retire on or they lost a third of their retirement or whatever it is they lost but most people lost something. Are you okay in losing it?

Nate: I’ve talked to some people and I’ll ask them. They’ll say they’re funding a 401(k) and they want to continue doing that. You say, “Well, what do you believe? Do you believe that it’s going to continue going up the way it has, which would be really great for those of us in the market?” I’m not one of you. Or do you think we’re at all time highs and the market is overpriced and there’d probably be a correction or a recession coming on the pipeline? You can’t guarantee the timeline but the next few years.

If you’re expecting to have a big crash or a big correction bringing down to normalized pricing, why are you still putting good dollars after bad dollars knowing you’re only going to get 60 and 70¢ on the dollar once it actually drops? Why not at least just wait until after the drop, after the correction? We’re at all time highs here.

That’s another question to ask yourself. What do you believe the market is going to do? If you’re going to lose 50% in the market like we did in ’08, ’09, a lot of people did, that’s going to wipe out all the money and the employer match the whole time anyway and half of yours. Ask yourself that question.

Holly: Are you tired of being stressed about money? The Dollars and Nonsense podcast is sponsored by Living Wealth. Visit livingwealth.com/freedom to get your free smart money eBook and sign up for a personal wealth presentation today. Living Wealth is a family owned and operated business which works with individuals, families and even businesses to slay the money stress dragon.

Our clients receive individual coaching regarding wealth creation and how to create a retirement income. You’ll be enabled to have cash today and in the future. Since 1972, Living Wealth has been committed to educating smart people on basic money principles to assist them in becoming debt-free and finally find financial freedom. Let us help you set you free. Remember to visit livingwealth.com/freedom to receive your free eBook and even sign up for an individual wealth presentation today.

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Nate: The last one I would say, Holly, would be the penalties and the restrictions. Are you willing to lock up your money where essentially it’s practically inaccessible for the foreseeable future? Many plans you cannot take a withdrawal until you retire or leave, stop actively working for that company. If you’re going to work until age 65, you’ll never be able to touch a dollar of that money except for maybe the loan provision, which is maxed out at half the account value or 50 grand. You got to pay back over 60 months at an interest rate that they choose.

The other thing is there’s so much restriction and lack of liquidity there. That’s why people are in credit card debt. That’s why people are stuck in debt living paycheck to paycheck. It’s not because they’re totally broke. It’s because of this thing called the 401(k) that’s locking them in and they have money that could give them breathing room and freedom that is unaccessible.

Holly: Nate, it’s like what my dad says with the 401(k) program. What we have been convinced of is that dollars is the same as numbers. If I have $200,000 in there that that’s just the same as 200,000. But if we look at it over time, what you can buy today with 200,000 versus 10, 20, 30 years from now or 15 years, whatever it is, is very different. That same $200,000 in the future will not buy what it will today. You’re really giving up the growth of that money. You’re really giving up that strong dollar the longer it’s sitting there. Be aware numbers and dollars are not the same. 200,000 and $200,000 is not the same thing five years from now, 10 years from now, whatever it is.

Nate: Right. They always show these rosy numbers at the end of the timeframe. Merely mentioning another issue that I’ve had just for the 401(k) overall is that it gives people a false sense of how much money they actually have because if you had $200,000, you say, “That’s great.” There’s not really $200,000 in your account. The government has to be paid on the money in your 401(k) at some point.

When people talk about having money in a retirement point and they show that it’s a million dollars let’s say, well, if you’re going to be in the 30% tax bracket in retirement or more, which you will be if your vast majority of income is coming from a 401(k), then you don’t have a million dollars. You have $700,000 let’s say if you’re in the 30 … That’s how much money you actually have but we have this idea that we have a million when in reality there’s a mortgage or there’s a lean on your 401(k) that’s going to be paid to Uncle Sam at some point before you even get a dime. You just don’t know how big it’s going to be in the future. If that doesn’t intimidate you, I don’t know what will. That’s what intimidated me that I might have to pay some unknown future tax on this money in here and I don’t know what that’s going to be and I don’t get to write the rules on what it will be.

We’ve said all these issues, Holly. What is the one redeeming quality typically found in a 401(k)?

Holly: Well, the only redeeming quality I think you and I would agree on is the match. I’m not even a hundred percent it’s a redeeming quality except for the fact that they maybe will pay your fees so that your actual money is going in there. But the only redeeming for me personally, I could honestly say that I truly think is a redeeming quality is the match.

Nate: That’s what you hear everyone say. “Well, Nate. I won’t give up free money.” Or, “Nate, that’s a hundred percent return on my money.” Well, is it? Is it really? You cannot just say I’m going to do this for the employer match without taking into account what you could have done with your money doing something else. If you think tax are going to go up, if the fees are too high, if the market is going to crash, if you’re in credit card debt because you have [inaudible 00:19:27], if you have all these things and you’re just going after the match, you might actually be putting yourself in a far worst position than you have to be.

It’s not a 100% rate of return on your money. The reason you know that is because if you put … I ran the numbers. If you are to contribute $5,000 on your own and earn money versus $10,000 because let’s say the employer match is dollar for dollar, if you earn $5,000 and earn 8% on your money, you’ll actually have more money than if you put in $10,000 at 4% over 30 years. You have way more money at the 5% level than you do at the 10%. In other words, what’s actually going on in the 401(k) matters. It matters based on what you should do.

You could put twice as much money to something that’s going to underperform and be worst off than if you put something elsewhere. I think that if you know what you’re doing, especially what we teach with IBC, if you have money flowing through policies and we’re using those to make investments and paying debt off and all these things, I really think you’ll probably earn a lot more doing that than doing the 401(k). I can’t tell you that for sure. But if history shows what our clients have done, it can make a lot more sense at times. I’m not saying it has to make sense. But don’t just do it for the match and just accept these other things unless you’ve thought about them, you’ve asked yourself these questions and you’re willing to take the hit on these other things to take advantage of an employer match.

Holly: Questions to ask yourself. Is it worth you tying your money up for a set period of time without access to it unless you pay penalties?

Nate: Maybe not even then.

Holly: Maybe not even then. Just for a match whether it’d be dollar for dollar, whatever that match may be. Is it honestly worth it to you? I think that’s one of the questions we failed to ask ourselves. We hear that employer match and we automatically believe it’s a good thing without ever really seeing the impact it could have on our future and our lives today.

Nate: That’s the encouragement today. Weigh for yourself what makes sense to you. Ask yourself, do you believe taxes will go up in the future or not? Ask yourself if you believe the market will crash in the near future or not. Ask yourself if it’s worth being in debt or having money locked up that could be working elsewhere just to get the employer match, if it’s worth the high fees typically found and the unknown fees in a 401(k). If all of those things are not a deterrent to you as much as the joy of receiving an employer match, the free money that’s being offered to do this plan, if that means more to you, then please go ahead and do it.

Holly and I are not here to tell you it’s a bad idea to invest your 401(k). There is no absolutes typically in the financial world. Very rarely is something absolutely the best. You have to do with what you believe and you’ll be more successful if you focus on doing things that you really trust. If you’ve weighed these things and you say, “Yup, even with all these issues that I know are inherent with the 401(k) and the uncertainties of the future, but getting this match seems to make the most sense to me,” please go for it. But if you’re like, “Well, no, you guys are right. There’s so many issues with it. Maybe I’d rather take control and work with my own money. I’d probably maybe receive a better result than if I even forego the match.” Well, then do that but just come to a conclusion in yourself with the real information on what’s best for you.

Holly: Absolutely. You really, really need to weigh the questions, answer them for yourself, for you, for your family. How does it make you feel? Not just now today but in the future as well. Do you really feel like that provides financial security or is it a false sense of financial security?

Nate: Don’t violate your conscience. If your conscience is saying, “I shouldn’t be doing this but everyone else is doing it. There’s an employer match.” Go with what you can believe in, what you can grasp hold of and don’t look back. Don’t live with this life of uncertainty and a violation of your belief system just to try to get benefit when in reality, as Holly and I have clearly laid for you, the benefit is not what you think it is typically. Quit saying the slogan of free money are 100% rate of return. It’s not real. Don’t use that. Weigh the real benefit of the employer match versus the inherent problems with the 401(k) and see if it’s something you should do.

Holly: I would tell you to go one step further if you’re doing a 401(k) and the match. Actually start looking at what you’ve put in and net growth. Does the match really makes sense or is it really that matched? Really find out for yourself where you have peace in doing it because for me if I answered any one of the questions we asked, do I know taxes? No, I don’t. Will they go up or down? What are the fees? Can I predict the market? If I don’t have a sense of peace or security in answering those questions, it’s not something I want to participate in. But hear us out. If you truly believe in that 401(k), you’re okay with answering those questions and whatever happens in the future, then it definitely is for you because you truly believe in it.

Nate: We’re happy for you. We’re not even upset. Do it please. But don’t just-

Holly: Do it because everybody else is.

Nate: If you follow the herd, you will get slaughtered, people. Don’t just follow the herd if it means that you’re going to run off a cliff.

Holly: We’ve been so trained to get in the box of everybody else that we’re afraid to step outside the box and do something different. Typically you’re not going to be better off financially in the future unless you start making changes today.

Nate: Absolutely. Speaking of, I think we’ve ran out of time. This has been Dollars and Nonsense. If you follow the herd, you will get slaughtered.

Holly: For free resources and transcripts, please visit livingwealth.com/e46.