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Are 401(k)s doomed?

Last week my employer announced it is suspending 401(k) contributions for 2009. Mind you I work for a debt-burdened company in an industry seemingly on the verge of extinction (seemingly because most individual newspapers still turn a nice profit, but sales, margins and circulations are all shrinking, hence the doom-and-gloom.) One writer worries what happens if this idea catches on, quoting a New York Times story from last month:

Traditional pensions are disappearing, and Washington has yet to ensure that Social Security will remain solvent as baby boomers retire and more workers are needed to support each retiree.

The company cutbacks may mean that some employees put less money into their retirement accounts. Even if they do not, the cuts, while temporary, will have a permanent effect by costing many workers years of future compounding on the missed contributions. No one knows how long credit will remain scarce for companies, or whether companies will start making their matching contributions again when credit loosens and business improves.

401(k) investing was the engine of the 1990s bull market — billions of new money flowed into the market as people began signing up. The logic of a 401(k) seems flawless: If you sock away 6 percent of your income and your company matches half of that, you have a built-in 50 percent profit. I got greedy in 2007 and 2008 last year and took out 9 percent vs. the company’s 3 percent match. Last year’s 45 percent decline cleaned my clock good, but I lost only about a quarter of my own money (Disclosure: I’m all in cash now as a hedge against getting pink-slipped: It could take awhile for this going-on-50 white guy to scare up new revenue sources after two decades in a going-out-of-style industry.)

Take away the guaranteed profit of a 401(k) match and all the sudden you’re up against all the market risk instead of half of it — and you’re limited to the funds your company lets you invest in. Not very sexy from a “where should I stow my life savings?” standpoint.

Also, companies that stop 401(k) contributions may find that all the sudden their employees aren’t so hot for a voluntary pay cut: with no company match I might as well draw my full salary and invest my cash in the best place I can find.

But what about the tax deferral? A co-worker of mine who is very savvy about such things expects taxes to be much higher 20 years from now, when all the baby boomers have retired, so he’s putting as much as he can into a Roth IRA, which allows you to make tax-free withdrawals in retirement because you’ve already paid income tax on the money (you’d still owe taxes on the capital gains, presumably, but with a 401(k), all money you take out is treated as taxable income because you paid no taxes on it when you earned it.) More on Roths at this page.

Hopefully the cut-off of 401(k) funding is temporary.

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Tom Mangan posted at 11:59 am January 2nd, 2009 |

2 Responses to 'Are 401(k)s doomed?'

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  1. Mahkno says:

    I’ve read that 75% of mutual funds are dogs and do worse than the market as measured by the indexes. So… seeing as most 401ks are heavily dependent on using mutual funds you really have to wonder if depending on 401ks is a really good idea.

    Frontline on PBS did a good piece on retirement. It is a couple years old but is still very relevant today.

    A good line from the show went like this. A guy asks some rich executive if he would let some low level guy manage his retirement portfolio. Naturally he said of course not, the low level man isn’t remotely qualified. Followup question, then why do we expect employees to manage their 401ks?

    Additional notes… rich successful employees tend to have well managed 401ks. Low level, less educated, employees not so much.

    Watch the episode online, its good.

    Permalink | Posted January 4th, 2009, at 5:29 pm
  2. tom says:

    My 401k track record is nothing to boast about.

    I’d love to get in on some of this low-price action but I need to realistically plan on having enough cash to be unemployed for a year or so.

    Permalink | Posted January 4th, 2009, at 9:28 pm

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