One of the best ways to build your nest egg is to participate in an employer-sponsored retirement plan. Many companies offer 401(k)s to their employees, providing you with the chance to put away a significant amount of money each year and enjoy a tax benefit to boot. But not all 401(k) plans are the same.
In fact, there are plans that are much worse than others.
You might even find yourself saddled with a bad 401(k) plan and you don’t even know it!
So how can you tell the difference? The good news is there are a few key indicators that allow you to determine whether your company’s 401(k) is good or bad:
Look Closely at Administrative Costs
Your first clue is to look at administrative costs. A good 401(k) plan has reasonable costs associated with it. With many small businesses, you might pay between 1.5% and 2%, but if you work for a large company, it’s rare that you will pay much more than 1% or 1.5% for plan expenses.
A bad 401(k) plan has high administrative costs — sometimes up to 4% or more per year! These high costs erode your real returns, and rarely offer anything substantial in return. Pay attention to your plan’s fees! Recently enacted rules require more transparency on your 401(k) statements, so you should be able to see how much you are paying in fees annually.
Ask About Investment Options
Another consideration is your investment options. A bad 401(k) plan offers limited asset classes and may even require a heavy investment in the company’s stock. This is a huge red flag!
You want to be able to choose from a variety of asset classes with low-cost funds that help you meet your preferred asset allocation.
A good 401(k) plan will also include some sort of investment help for those investors who are more hands-off. A good plan might offer an analysis of your risk tolerance and then suggest a portfolio for you. Some of the best plans offer employees access to direct investment advice as they set up their allocations.
Too many investment choices can be a bit of a turn off as well. The key is to look at the plan to make sure there is just enough in terms of low-cost choices, variety of asset classes, and guidance (or even asset management) for those who need a little extra help.
Other Items to Watch For
It also makes sense to pay attention to whether or not there is a lot of complexity involved. For the most part, long-term retirement investing doesn’t need to be complicated. If your 401(k) plan involves a group annuity or some other complex arrangement, chances are it’s a bad retirement plan.
Another item to look for is the company match. Many companies offer matching contributions, providing you with free money.
It doesn’t mean a plan is bad if a match isn’t offered, but a match can be a nice bonus that increases the attractiveness of an already good plan. But don’t let the match blind you to the red flags of a bad plan. The match isn’t the be-all and end-all.
Pay attention to your company’s offered 401(k). You want to make sure you are getting what you need to build a retirement portfolio that will take you into the future you want.