Qualified Plans: What you don’t know CAN hurt you.
Currently, there’s a variety of government Qualified Plans to choose from, depending on your own particular circumstances and preferences. These include:
- 401(k) Plans
- 403(b) Plans
- 457 Plans
- Traditional IRA Plans
- SEP IRA Plans
- “SIMPLE” IRA Plans (is anything really “simple,” when it comes to taxes?)
Their major disadvantages include:
- They don’t actually avoid or eliminate taxes; they just delay them.
- Your money is illiquid—it’s not accessible to you (even as a loan, except under certain very tight restrictions) before you reach retirement age.
- If you do need to withdraw money from a Qualified Plan before you reach age 59½, it is not only immediately taxed as ordinary income; it’s also subject to a 10% IRS penalty.
- And it gets worse: If you don’t start withdrawing your money at age 70 (even if you don’t need it then), the IRS will collect a 50% penalty. That’s for not withdrawing your own money.
- And, of course, the money in your Qualified Plan could be subject to the same market risks as it would be in any mutual fund or in commodities like precious metals, depending on which investment vehicles you’ve chosen for your account. (Just ask anyone who watched his or her 401(k) lose half its value in a matter of months in the Great Stock Market Collapse of 2008.)
So, as you weigh the advantages and drawbacks of opening or adding to a Qualified Account, prudence dictates that you consider the following:
- What tax bracket will you be in when you retire—lower, the same, or higher than now?
- What is your exit strategy—how will you withdraw your money, when and how long will it last?
- Tax savings—are they real, or apparent?
- How do Qualified Retirement Plans compare to taxable investments?
- Roth IRA versus Traditional IRA—which is more tax efficient (you might be surprised)?
- Does your employer match your contribution (free money, that’s great)? How much are you allowed to contribute of your own money?
- What is the “Government Risk” (e.g. a change in tax rates or the IRS Code), and how might it affect your retirement?
Knowing the answers to these questions today, as well as learning proven tax-efficient strategies, will help determine how much money you’ll have to spend and enjoy during your retirement years.
Time to Retire the 401k (Time Magazine article) PDF
Qualified Plans PDF