| Sargent & Lundy Savings Investment Plan |
| 401(k) PLANS: 7 COSTLY MISTAKES |
| The following excerpts are from an article in the July
1997 issue of "Consumer Reports". The opinions expressed may
or may not reflect those of the SIP Committee.
If you are one of the 42 million working Americans now participating in a 401(k) plan or some other tax-deferred retirement savings program your employer sponsors, you've probably learned quite a lot about managing your growing investment portfolio. You're contributing as much as you can afford, investing some portion in somewhat riskier stocks that have higher returns, and taking full advantage of any employer matching contribution. But with your future financial security riding on the choices you make, you can't afford costly mistakes. Avoiding the following pitfalls could mean the difference between comfort and hardship when you reach retirement age: 1. Churning your accounts With your 401(k) money subject to the buffeting of the financial markets, it's tempting to shift assets from one fund to another at the first sign of market turmoil. Many companies that offer 401(k)-type plans are making it easier to act on that temptation. But don't touch that dial. Investors who try to time the stock market by guessing when prices will rise or fall do far worse than those who patiently stick to a long-term plan. Over the 10 years between 1986 and the end of 1995, the Boston-based investment research firm Dalbar has found that investors who aggressively traded their shares tying to anticipate the market's direction saw the value of their portfolios grow 96 percent. That sounds good - until you learn that it is less than one-third the return earned by investors who stood pat and rode out the market's ups and downs. 2. Stepping into the loan trap Are you thinking of tapping the money in your 401(k) for a loan to pay for a new car, next semester's tuition, or even a vacation? In 1995, nearly one-third of all plan participants borrowed from their 401(k) - up from just 25 percent in 1992, according to the Profit Sharing/401(k) Council, a nonprofit retirement-benefits research organization. But be careful before you borrow; that loan could end up costing you tens of thousands of dollars in foregone retirement benefits. Until you repay your loan, that sum you borrowed isn't available to continue its tax-deferred compound growth. Moreover, if you suspend making new pretax contributions to your 401(k) account while paying back the loan, you'll lose a significant tax benefit and any employer matching contributions. The interest you pay yourself may not beat the returns your money could have earned were it invested in a stock fund. And, unlike interest you would pay on a home-equity loan, the payments on a 401(k) loan aren't tax-deductible. Finally, by borrowing from your 401(k), you are taking a large and potentially expensive risk. If you should resign or lose your job while you have a 401(k) loan outstanding, your employer will most likely require that the loan be repaid in full soon after your employment ends - a time when you may be least able to come up with the money.** Failure to repay would mean that the money you borrowed would be considered a distribution, requiring you to pay income taxes and most likely a 10 percent early-withdrawal penalty if you are under age 59-1/2. 3. Losing your balance When you joined your 401(k) plan, you weighed what proportion of your pretax savings you'd invest in safe fixed-income funds and how much you felt comfortable allocating to riskier stock funds. But over the past several years, stocks have appreciated far more rapidly than bonds; this would have steadily increased the proportion of your stock holdings. Good fortune in the stock market, however, may mean that you're taking on more investment risk than you want. Instead of reducing your exposure to more volatile stocks as you grow older and near retirement, as most financial planners advise, your increasing proportion of stock holdings would make you more vulnerable to a sudden stock-market reversal that could wipe out years of gains. Don't wait for a market crash to adjust your unbalanced portfolio for you. Protect the gains you've earned by reviewing once a year how much money you hold in stocks and in bonds. Bring the proportion back to the balance that best reflects the degree of risk you are willing to tolerate. Transfer funds from the account that has grown proportionately too large into the one that has become relatively underfunded, and adjust the mix of any new contributions you make until the balance you want has been restored. 4. Letting your contributions lag You will be counting on the savings you amass in your 401(k) plan to help maintain your living standard when you retire. But you risk falling behind unless you steadily increase the amount of the pretax pay you invest in your 401(k) to reflect your periodic pay increases. For example, if you begin to contribute a flat $250 per month to your 401(k) at age 35 and that money were to earn an average 10 percent return annually, your retirement savings would grow to a tidy $515,711 by the time you reach age 65. However, you would accumulate $226,585 more if your annual income grew by 4 percent and your had steadily increased your 401(k) contribution proportionately. The easiest way to ensure that your contributions keep pace with your earnings is to have your employer direct a fixed percentage of each paycheck to your 401(k) account - up to the maximum the law allows. that way, instead of using your raises to support more spending, you will be increasing the proportion of the pretax earnings you steer into your 401(k) as your income grows. 5. Overloading on company stock Like many 401(k) plans, yours may offer you the chance to purchase company stock as one of the investment options. But be careful. You already depend on your employer for a steady paycheck, your family's health insurance, and other benefits. It doesn't make sense to hitch your retirement security to your employer, too, by holding too much company stock in your 401(k) account. If the business hits hard times, you could both lose your job and watch the value of your retirement assets plummet as the company's stock price drops. Sometimes, accumulating company stock is unavoidable. Many businesses award stock options to their employees or distribute shares as bonuses. And according to Buck Consultants, 17 percent of employers offer their 401(k) matches exclusively in the form of common or preferred shares. If you are building your holdings of company stock outside your 401(k) plan or if your employer matches your contributions with shares, don't buy more. And if your company's plan allows it, sell the stock you've accumulated should your holdings grow out of line with your investment objectives. Move the proceeds to one of the more diversified stock funds your plan offers. 6. Cashing in your 401(k) savings If you do change jobs, you'll face some important choices about what to do with your 401(k) assets: Leave them where they are in your former employer's plan, have them transferred into your new employer's 401(k) plan, or roll them over into your own tax-deferred Individual Retirement Account. The one choice to avoid at all costs is cashing out of the plan. You will owe income taxes on the money you withdraw plus a 10 percent penalty, unless you've reached age 59-1/2. But your loss doesn't end there. Letting your 401(k) savings retire before you do may deprive you of years of tax-deferred growth. A former employer is not required to maintain a 401(k) account for participants whose account balance totals $3,500 or less. But if you are forced to take a distribution, it would be unwise to spend it even if you are relatively young and your 401(k) savings are small. Left alone, that little seed capital will grow into a sizable retirement benefit. For example, over 30 years, a 35-year-old worker who leaves his or her $3,500 invested in a tax-deferred retirement account that grows at an annual 10 percent would amass a portfolio worth $61,073 without adding another dime to the original principal. 7. Letting your records lapse Let the administrators of any 401(k) plan you have paid into know if you change addresses. And be sure your records reflect any important change in your family status - marriage, divorce, or the death of anyone you've named as a beneficiary. You worked too hard for that money not to have use of it when you most need it. **The SIP does not. |
This page updated on 3/10/98