Is Your 401(k) on the Road to a Great Financial Plan?


Vanguard’s “How America Saves 2020” report is packed with lots of intriguing stats and findings about Americans and how they save for retirement in the crazy year that is 2020 (most of the recent data is technically from 2019, although some figures are current through the spring of 2020). Isaac will take a look at the statistics in this report that are related to 401(k) plans and what he commonly sees in his practice.

Transcript

John Stillman: Hello, and welcome to Wright Money Tips. I'm John Stillman, alongside Isaac Wright, chartered financial consultant and the president of Financial Dynamics and Associates, serving you throughout the greater Richmond area. You can find them online at financialandestateplanning.com or you can call (804) 777-9999. Isaac, always a pleasure. What's happening?

Isaac Wright: Hey John. Well, listen, election day is officially behind us, but we still have a little bit of time through the end of the year here. And I wanted to focus on some things that I think a lot of people that are going to listen here can control, specifically for people that have 401ks some of the interesting investment statistics that are out there today. Some of the things that I know we cover with a lot of families on a day to day basis. So without being long winded wanted to just kind of focus on the 401k side of the fence for the families that need the help.

John Stillman: Well, so every year Vanguard puts out this report called How America Saves and basically they look at all of the 401ks that are held at Vanguard, which is quite a lot of 401ks in this country.

Isaac Wright: Very much so. Yeah.

John Stillman: And so they give us some interesting statistics about things they're able to figure out from those Vanguard 401ks. So I'm just going to run through some of these. You can sort of give us your thoughts on each of these points. The first thing is that the study show that 78% of investors use target date funds in their 401k. So more than three quarters of people use target date funds one way or another. More than half, 54% use only target date funds. So what's your take on target date funds in general? And then do you see that as an appropriate choice for that many people, more than half using only that?

Isaac Wright: Yeah. Well, listen, I think in a general sense, it makes sense. I think a lot of people today are just assuming using a target date fund of retirement in 2025 or 2030 or whatever the date will be or roughly will be. They will, over time, have a portfolio that will be adjusted for risk as they get closer to retirement. And in truth that has played out fairly well in target date funds. Target date funds also can be a little bit more and sometimes a lot more expensive. Vanguard, I will say does a good job keeping fees in check. But the concern that I have in general with any type of target date fund right now is the bond positioning of the portfolio that the target date funds are using because if interest rates start to increase and we start having a situation where as most people, I hope if you don't know interest rates, as they go up many times, bond values fall.

Isaac Wright: Dependent upon if, how and when you need that money out of the target date fund, you could have a situation where you're taking a little bit of risk with the bond portfolio side of your target date fund. That may again be something that doesn't play out for a little while because I know the Federal Reserve has said, they're going to try to keep interest rates low for the next couple, two, three years, but we'll see if that plays out as well.

Isaac Wright: But overall, let me just say, if you don't know where to go and how to pick your funds again, the families that we serve, especially if they have a 401k inside of their relationship with us, we will help them personally rebalance out of the funds that they own. And make sure that again, on the lease on the annual chassis that the 401k is being reviewed. So if you have any concerns about your 401k and if you're feeling like, hey, I've just stuck it all into the target date fund, please reach out, talk to me, (804) 777-9999. And that we're happy to help you.

John Stillman: So if you fall into that 54% of the people that just mindlessly throw everything in a target date fund, you could probably do worse, but you could probably do a lot better. So reach out and get some help on that. Another statistic from this report, Isaac. As we entered the 2020 calendar year, 74%. So again, nearly three quarters of all Vanguard 401k plans offered a Roth option. The Roth 401k, which of course is different from a Roth IRA. Three quarters off of the Roth option. But only 12% of participants in those plans had actually used the Roth option. How big of a missed opportunity is that for most folks?

Isaac Wright: Yeah, it could be very significant because we all like to take that tax break per se, when we are putting money away tax deferred in the traditional side of a 401k. But we also need to consider the pool of money that we have that can grow income tax free for the rest of your life in a Roth account or Roth 401k. Now sometimes people say, well, I think my tax bracket is going to be lower as I hit into retirement versus what it is now. And so it supports me putting money into the traditional 401k, if you will. But now with the uncertainty of taxes, the uncertainty of how high taxes may go with all the federal and free money programs that have been out there now for a year since so we've been dealing with COVID. And of course, overall our budget deficit continues to grow.

Isaac Wright: That's where the argument may come into play that, hey, listen, that's not guaranteed. And you should maybe have a portion of your money sitting in a Roth 401k. You don't have to put all your eggs in one basket. You don't have to put all of your money in the Roth 401k, but you absolutely can put a portion of it in there just to get it off the ground. And that money would be available for you in the future as long as you play by the rules of 5 years, 59.5 basically to have that money, income tax free. So it's a good way to kind of diversify some of your future tax unknowns if you will.

John Stillman: Very interesting. So be sure that you're not forsaking that opportunity. I think for a lot of people, maybe when they first set up the 401k, they didn't have the Roth option. The Roth option got added later and they're just not paying enough attention to know that they need to go in there and make a change.

Isaac Wright: Yeah John, if I can say. And I think for all of you, this is where a lot of times the 401k plan may have a rep come out once a year, generally talk about what options are available. Sometimes these things are not really well-known or you're busy with life, and just wasn't a situation that you kind of put on your agenda if you will. So just know that, I think a lot of families that we work with, people that do reach out to us, remember we really focus on financial planning as you transition into and through retirement. These are going to be big topics that you want to have somebody that knows who you are that can help guide you, especially on some of these transitional type of thoughts that we have today. And that's a big one because again, taxes could be very well higher than they otherwise may have been a few years ago, based upon all the money and all the programs that have been put out there to try to stimulate the economy.

John Stillman: We're talking about some of the interesting statistics from Vanguard's recent, How America Saves report. How about this Isaac? In the 10 years, between 2010 and 2020, the number of people holding company stock in their 401k dropped by 16%. What might be a reason for that, do you think, that so many people have decided not to have company stock? And do you consider that a positive trend?

Isaac Wright: I think it's more of a realistic trend just because people are sticking and moving in jobs. Back in the day, and I've been doing this 20 years going back and just thinking about this, a lot of people had stock for 20, 30, 40 years at Phillip Morris and Honeywell and companies where once you got into the company, very rarely did you leave. You basically retired there with your pension, your deferred savings. And a lot of times people just bought the stock because they believed in the company. That's not so much the case anymore. So it doesn't surprise me that individually company owned stock in a 401k is dropping because people are better educated about not putting all their eggs in one basket, which is probably the biggest thing.

Isaac Wright: And then number two is I think there's a lot of transition with jobs today where people may be just not as confident in the company that they work for. So the combination of those two things I think probably is going to continue to drive down "company owned" stock into a great concentration into somebody's 401k portfolio. But I do consider it to be a positive trend. So to answer your question, yes, it's absolutely something I think is a positive in the fact that I've seen so many people have an over concentrated amount of money in one stock. It's played out really well for some and unfortunately it's actually played out pretty bad depending upon the timeframe of when you retire, if that company stock has taken a hit.

Isaac Wright: So again, if you have any concerns about your 401k reach out, you can talk to me anytime, (804) 777-9999. You can visit our website, financialandestateplanning.com. But these are all good statistics. People should be in a way, John, should not only be aware of, but these are things why, if you're thinking about hiring a retirement professional, somebody that can oversee your plan, these are things that we know, things that we bring to the table that sometimes is not very well understood in the public.

John Stillman: All right, Isaac, one more stat from this report from Vanguard. In the 2019 calendar year. And of course they're looking back at last year's data. We don't have all of the 2020 data yet. In the 2019 calendar year, 3% of 401k participants took a hardship withdrawal from their 401k. This was actually a slight increase up from 2% in 2018. Have you ever recommended to somebody that they take that hardship withdrawal from the 401k? And I guess what are the circumstances where doing such a thing might be logical?

Isaac Wright: Individually I've had maybe one or two in my whole career where it actually made sense. And let me just say this. It can sometimes very well make sense, even though you have to pay the taxes to take the rules and use them to your advantage about having a hardship withdrawal versus maybe taking out a high interest loan, if you can even qualify for that. I say again, hardship means truly hardship and the families that I would say that we serve, typically don't run up into that type of situation. However, I would be curious just as a side note, what to see 2020s hardship withdrawals will be with everything that's happened this year. I would imagine that probably is going to be up pretty substantially, but hardship rules, you have to qualify, but if you do, you can pull money out of your 401k prior to 59.5 and use it. And there's a few things there.

Isaac Wright: I'm not going to go into the details, but just be sure that you are aware that you do have through your 401k, the potential to have a hardship withdrawal. Sometimes you can also take a loan against your 401k versus having to do an outright hardship withdrawal as well. So these are all again, what I would call the day to day functionalities of 401ks, where people are busy doing other things. And then if something hits you, or if you have a situation where you're trying to figure out retirement, these all play into, I think, a pretty considerable amount of decisions relative to how to handle your 401k. So I hope this has been helpful today's episode. Really. I just wanted to focus on some of the things that hopefully went the 401ks and the unknowns that we're going to see here over the next weeks and months ahead, things that you can start understanding about your money that you've saved for in your company's retirement plan.

John Stillman: So again, if you'd like to get any help on any of this from the team at Financial Dynamics, the number to call is (804) 777-9999. That's (804) 777-9999. Reach out, have a conversation, figure out what you need to be thinking about moving forward with your financial plans. Thanks so much for tuning in to Wright Money Tips and we'll talk with you again very soon.

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Announcer: Advisory Services offered through JW Cole Advisors Inc, JWCA. Financial Dynamics and Associates Inc and JWCA are unaffiliated entities.

Advisory services offered through J.W. Cole Advisors, Inc.
 
J.W. Cole Advisors, Inc., and Financial Dynamics and Associates, Inc. are unaffiliated entities.

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