I have had the fortunate opportunity to compare many different pension and retirement savings systems around the world, which just as fortunately is a subject I happen to be extremely interested in, and can confidently say that the US 401(k) plan is one of the best retirement savings and asset protection tools I have seen anywhere in the world. That is why I was surprised to see a Bloomberg op-ed earlier this month by my old NY colleague Aaron Brown doubting the value of 401(k) plans, which quickly became the target of several critiques on Twitter (including from me) arguing that 401(k) plans continue to be one of the best ways for Americans to save. Also following articles on Morningstar replying to the op-ed, followed by a January article on how this 46-year old system might be reformed, I wanted to jot down a few of my thoughts on making the most of your 401k plan.
First, I probably should list a few reasons why I believe 401(k) plans are one of the best retirement savings vehicles I have seen anywhere in the world:
- The law is very flexible in how your retirement plan can be designed, and what you can invest the assets in. In practice, many employers design a plan that works for them, and limit options to a few expensive mutual funds, but the freedom is there to set up better plans.
- Because of this flexibility, 401k plans have access to some of the cheapest and best funds and investment platforms in the world’s most advanced and competitive financial services market.
- Contribution limits into 401k plans are relatively generous by international standards, making it not too difficult for upper-middle income earners to accumulate millions of dollars into these plans
- These retirement plans are sheltered from US tax on most investments within the plan, and benefit from the US’s extensive tax treaty network with foreign investment destinations, making them one of best vehicles in the world to make investments from.
- 401k plans can provide a level of asset protection (from lawsuits and creditors) that is rarely seen in structures where the beneficial owner retains the same level of control, and
- When you leave an employer, you are free to transfer your 401k balance into your new 401k plan or into a Rollover IRA
- Compared to other pension plan structures, 401k plans can be relatively cheap to set up and run, sometimes even cheaper than UK SIPP or Australian self-managed superannuation funds, just to name two examples.
The big disadvantage of 401k plans, in my view, is that most employees are simply stuck with the one their employer has designed and provided for them, and many employees don’t even have access to a 401k plan at all, especially US taxpayers working outside the US. Some suggestions might include:
- If you have some clout with your company’s senior HR, see if they will consider setting up a new 401k plan. Yes, foreign companies can set up 401k plans for their American employees, even those working overseas.
- If you are your company’s senior HR, contact us for ideas on how to set up the best 401k plan possible
If you have a 401k plan at your current employer that you are otherwise happy with, the additional suggestions that come to mind are:
- Make sure you are maximizing contributions
- See if you can take advantage of strategies like the “mega backdoor Roth“
- Make sure your investments in the plan are not too conservative. The only cash or money markets in your 401k plan should be what you plan to withdraw in the next few months, and the only bonds should be what you plan to spend in the next few years. Beware of stock funds with excessive fees, concentration, or lofty valuations.
- Make sure any 401k plans at old employers have either been rolled into this plan or into a separate IRA you can control.
Obviously this blog article is not personalized advice, but hopefully provides some inspiration for how to make the best of one of the world’s best tax-sheltered investment vehicles.