Quitting Your 401(k): When is it OK?
Jan 20th, 2009 by Carlos
Trent had a reader ask him a question that got me thinking quite a bit the other day. Basically, Wayward wants to know if it’s OK to stop contributing to his 401(k) and if he should put the money he was previously putting into it into a different account.
The problem? His company, as are many others during these difficult times, is no longer offering their employees any matching. That means you’re not getting the biggest perk of all of a 401(k): free money.
Matching? We Don’t Need No Stinkin’ Matching!
Umm, yes you do. As frequent readers know, I’m not a big fan of 401(k) providers—I think most of them suck. Why? Let me count the ways:
- Limited Options: Their menu is very limited and if you want to lobby for change, it will take a long time to get it done—if it happens at all. Think of as being in jail and complaining about the food—what are you gonna do but eat what they serve you?
- High Expenses: Why wouldn’t they charge you more? They’re the only game in town, so they can charge whatever they want because they know you want to get your hands on that “free money.” It’s kind of like the ridiculous prices of candy and soda at the movies. There’s no competition so they can charge whatever they want.
Something about that whole attitude of “hey, we’ve got you where we want you so we’re gonna fleece you” just doesn’t sit well with me. So if I were in Wayward’s shoes, here’s what I would do:
- Open a Roth IRA: Trent also recommended going this route, and I think it’s a no-brainer. Having a Roth IRA and a 401(k) gives you added flexibility (as this “oh so early” post of mine illustrates—I’ve come a long way) when it comes time to retire. I have mine in several places, but the best place to start is Vanguard: cheap index funds baby.
- Stop contributing as much: Wayward was originally contributing 20% of his paycheck to his 401(k), to which I say “Whoa!” That’s great that you can afford to set aside that much of your paycheck, but with the matching gone, I would seriously cut this back. How much? How about trying to fully fund the Roth you just opened. That’s $5,000 a year. If you can fully fund it and leave the rest in your 401(k), you are home free.
- Check your allocation: Now that you have a Roth, look at the funds you want to own in your entire retirement portfolio and see where they are cheapest. If you you can get the same fund in your Roth and your 401(k), odds are it’ll be cheaper over at Vanguard than with your 401(k) provider, so pick the one that is ripping you off “the least” and buy that one with in your 401(k). What you’re trying to do here is minimize your fees.
Am I missing any other tips for people in this situation? I know that the drumbeat out there is to contribute as much as you can to your 401(k), but under certain circumstances it’s worth considering the other options that are out there.
Oh and if you still get matching I would still push for opening the Roth—flexibility is a beautiful thing.
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