401(k) Mistakes That Could Cost You

Avoid these common mistakes to keep your 401(k) growing strong for retirement.

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Using a 401(k) plan to save for retirement is a sound strategy. But you can derail your progress if you make the wrong decisions. There are several pitfalls that you need to avoid.

But what are these pitfalls, and how do you avoid them? Approach your 401(k) plan like you would any other retirement account and apply strategies to make it grow.

Not Taking Control of Your Investments

You’ve taken the biggest step and have a 401(k) plan, but besides contributing, you’re not paying attention to it. Your plan is on auto-drive. That means you have no idea where your money is invested and have no control. It’s important to have an investment strategy with your 401(k).

Plans offer various investment options such as mutual funds or exchange-traded funds (ETFs). You can mix and match them according to your risk tolerance. The investment strategy you apply to your 401(k) impacts its growth and your total retirement. You’ll also want to adjust the strategy as you age and approach retirement.

If you have questions or concerns, consult with a fiduciary financial adviser.

Disregarding Asset Allocation

You don’t want to put your eggs all in one basket. If you don’t adjust your investments periodically, you risk one asset bringing your entire 401(k) down.

For example, if you have high-risk stocks and they have accumulated a large portion of your fund, it might be wise to move some of it to more conservative investments. This is balance and is important to your long-term strategy. Have a financial advisor review your investment periodically to make recommendations.

Not Contributing Enough to Qualify for Matched Funds

Most employers provide matching funds up to a specific percentage. This not only gives you an extra incentive to participate but also increases your 401(k).

For example, an employer may offer 50 percent matching on your contributions up to 6 percent. That means 3 percent of your salary has an employer match.

By not contributing enough to max this out, you’re leaving free money on the table. Taking advantage of this free money helps you compound your 401(k) faster.

Switching Jobs Before You’re Vested

While your employer may match funds, you’re not eligible to keep the funds until you’re vested. According to the Internal Revenue Service, vesting in a retirement plan means ownership. This means that the employee will vest or own a specific percentage of their account each year.

If you are 100 percent vested in the account balance, that means you cannot lose or the employer cannot take out their contribution for any reason.

Vesting can be immediate or take several years. It depends on the employer’s plan requirements. However, whether or not you’re vested, you still will be able to take the funds you contributed regardless of how long you work for the company. This only applies to the employer’s contribution.

It’s important to run the numbers on your 401(k) plan before you leave your employment. If you’re not vested, you could be leaving thousands of dollars behind.

Taking an Early Withdrawal

You’ll lose money if you take an early withdrawal. Although there are limited exceptions, according to the IRS, taking money out of your 401(k) before age 59 1/2 is considered an early withdrawal. So not only do you pay the federal and income tax on the withdrawal, but you’re also subject to an additional 10 percent tax or penalty.

Many plans allow loans, but there are fees associated with them. They also have interest charges. According to Everhart Advisors, interest is typically prime plus 1–2 percent.

You’ll also miss out on any investment gains your money would have earned if you had left it in the account.

Not Knowing the Difference Between 401(k) Types

There are usually two options when it comes to account types: the traditional 401(k) and the Roth 401(k).

The traditional 401(k) contributions are pretax. That means you don’t pay tax on the money when you contribute it. But you are taxed on all funds when you withdraw it.

With a Roth 401(k), you pay taxes on the money when you contribute it. But you don’t pay taxes on the funds contributed or the accumulated growth when you withdraw them.

It’s important to understand this so you can develop a strategic withdrawal plan.

Abandoning a 401(k) When You Leave a Job

Leaving a 401(k) behind when changing jobs is a common occurrence. According to Capitalize, in 2023, $29.2 million was left behind or forgotten when employees left their jobs. That represented 25 percent of all 401(k) plan assets.

There are several negative consequences to doing this. For example, leaving an account with a previous employer might require a move or risk a forced cash-out, which could lead to tax implications and penalties.

It could also be challenging to keep track of funds scattered among various employers if they let you leave the funds with them.

Instead, when you leave an employer, roll over your 401(k) into the new employer’s or into another retirement account.

Ensure You Protect Your 401(k) Plan

Your 401(k) is an integral part of your retirement plan. It shouldn’t be an afterthought or neglected. Take the time to monitor it periodically.

When considering a new job, always check to see if it makes sense to leave unvested money behind. And be sure to move it with you if you leave an employer.

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