Q: In your chapter on boosting 401(k) balances, you talk about the need to keep fees to a minimum – but also mention the option of using higher-cost actively-managed mutual funds (compared with low-cost passive funds). Since active funds generally underperform passive funds, are there ever situations where you think workers should choose active funds- if so why?
A: You can’t control your investment returns, but you do have a measure of control over how much you pay to invest. Choosing low-cost investments is one of the best ways to help your retirement savings grow faster. Each 401(k) plan provides a limited number of investment options, and might include both actively and passively managed funds. Passively managed index funds typically have
much lower fees and thus tend to produce higher long-term returns for investors than actively managed mutual funds. Your 401(k) plan is required to send you a 401(k) fee disclosure statement, which lists every fund in your 401(k) plan and how much it costs to invest in it. You can use this statement to identify how much you are paying, what might trigger additional fees, and to shop around for lower cost funds that might meet your investment needs.
Q: Let’s talk about Roths – you have a chapter on how to use them as well. For the typical worker already saving in a 401(k) plan, what factors should drive a decision to put an available dollar into a Roth IRA, rather than the 401(k)?
A: Your first priority should be to get any 401(k) match that’s offered. After that, compare your current tax rate to an estimate of your tax rate in retirement. If your tax rate is higher now than you expect it to be in retirement, it’s often better to take the tax break while you are working by saving in a traditional retirement account. If you think you will pay a higher tax rate in retirement, paying the tax now using a Roth account will lock in today’s low tax rate. You can also hedge your bets about future tax rates by saving for retirement in both types of accounts. Having some money in traditional and Roth retirement accounts will give you options to control your tax bill each year in retirement.
Q: I was glad to see a chapter devoted to reevaluating expenses in retirement – this is an aspect of the retirement story that often gets ignored. Do you see much evidence that this is catching on as a more important aspect of planning for retirement?
A: You can retire sooner and with less money in the bank if you are willing to cut your expenses. One of the fastest ways to significantly improve your retirement finances is to pay off your mortgage, thus eliminating what is likely one of your biggest monthly bills. Another way your home can help finance retirement is if you move to a house that costs significantly less than your current home and add the savings to your nest egg. Retirees can use some of their newfound free time to save money by negotiating for better deals on the products and services they use or taking on household chores they had to outsource while working. There are also many financial benefits of aging you might qualify for ranging from senior discounts to tax breaks for people who are above a certain age.
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