A 401(k) account is one of the best retirement vehicles one can own.
The money you contribute is pre-tax, you can get free money from your employer in the form of a match, and it’s relatively out of sight, so you tend to forget about it while your money grows.
But that doesn’t mean you don’t need to stay in touch with your money. Here are five essential tips for managing your 401(k).
Tip #1—Know the details of your 401(k)
As silly as it sounds, you need to know where to find your 401(k) and how to log into your account. I recently changed jobs, and my new 401(k) provider is a company I didn’t recognize. I lost the web address several times before finally pinning it to my shortcuts bar in Chrome.
On the other hand, you might have an old 401(k) hanging out there from a previous employer. If so, there are a few things you can do. First, I’d recommend contacting your old employer. Have them check their plan records to see if and when you participated in their 401(k) program. If that doesn’t help, then you may have to do a little more digging. Here are three websites that can help:
- FreeERISA—You can search for your former employer here, which will attempt to locate their government-required Form 5500. If you can find that, it should have at least semi-relevant contact information for you.
- National Registry of Unclaimed Retirement Benefits—Here you can find forgotten or abandoned retirement fund balances with previous employers. You might show up as a missing participant for some reason or another, so it’s always good to check here if you can’t seem to locate your 401(k).
- Abandoned Plan Database—The U.S. Department of Labor has a directory of 401(k) plans that have been or are in the process of termination. If all else fails, you may need to check here to see if your former employer has dissolved their 401(k) program.
Once you’ve logged into your account, spend some time getting familiar with your 401(k). Most providers will show you a pie chart on the front page—this is your asset mix (more on this below). They’ll also show you how much you have in the account and what your current contribution percentage is.
Another thing that’s becoming common is auto-enrollment. As a way to encourage people to save for retirement (and not assume there will be pensions and Social Security available), employers are automatically enrolling their employees in their 401(k) plan. How can they do this? Well, typically they give you a chance to opt-out—otherwise, your company will enroll you after a specified period.
Auto-enrolling in a 401(k) plan
A study done by AARP of over 300 employers and 10 million workers found that 68 percent of companies are automatically enrolling their employees in their 401(k) plans. This is a 10 percent increase from a similar study done in 2015. It’s not a bad thing to be auto-enrolled, but make sure it’s a comfortable contribution percentage for you.
Finally, you’ll want to understand how your employer matches contributions. If you’ve been set up for automatic enrollment, your contribution percentage is usually at the minimum to get the company match, but sometimes less. Or perhaps you picked a rate to contribute based on what your friend at work or recruiter told you.
Regardless, once you know how much you’re contributing, do some digging on exactly how your employer matches those contributions. You can typically find this in your employee handbook. If not, I’d recommend calling your Benefits or Human Resources department to find out.
Matching your 401(k) contribution
Some companies will match your contributions dollar-for-dollar, up to an absolute limit. For example, if a company matches 100 percent (also called dollar-for-dollar) up to three percent, that means they’ll give you three percent as long as you are contributing that much.
Some companies will do less (and make it confusing for you). For instance, a company might give you 50 percent up to the first six percent (you may hear this as ‘50 cents on the dollar’). Meaning that if you contribute the full six percent, they’ll match 50 percent of that—or three percent.
This concept can sound confusing, so if you’re unsure of how it works, make sure to contact someone who can explain it in detail, since all companies do this differently. You want to ensure you’re not leaving money on the table.
Tip #2—Increase 1-5 percent now, then set up annual 1 percent increases
Now that you know how much you’re contributing, I want you to take immediate action on increasing that contribution between one and five percent (yes, I’ll wait).
I’m pushing you to do this for a reason. A one percent contribution change will be hardly noticeable to you in your paycheck but will have a significant impact on your portfolio down the road. To prove this, I’m going to draw up a simple scenario for you.
Let’s say you’re 25 years old and you make $60,000 per year, paid bi-weekly. Assume your company enrolls you in the 401(k) plan at a five percent contribution rate, and they match dollar-for-dollar up to three percent.
Since your 401(k) contributions are pre-tax, you’re contributing about $115 per paycheck and a total of $3,000 per year (five percent x $60,000). Your employer is kicking in another $1,800 with their match. If you increase your contribution now to six percent, it will only be another $23 (pre-tax) out of your paycheck. That’s nothing. You’ll hardly see a dent in your take-home pay.
But the results can be astounding.
A little increase now will lead to huge rewards later
Say you never left this job and your salary increased, on average, three percent per year. Let’s assume you’re earning a healthy six percent return on your investments, and inflation is around three percent. All pretty conservative numbers.
If you chose not to make this one percent change today and kept your contributions at five percent, you’d have a 401(k) balance of $1,157,502 by the time you turn 65. That seems like a lot, but guess what that number looks like at a six percent contribution rate? If you instead contributed six percent (using those same assumptions above), your balance would be $1,302,190 at age 65.
That’s a difference of $144,688. All because you gave up an extra $20-30 per paycheck now. That is the power of compound interest.
If you’re bold enough to increase it by five percent now, that same portfolio will be close to $1.9 million by age 65. And if you recall, I told you before that you need about $2 million to retire these days.
So take some action now and increase your contribution. Whether it’s one percent or five percent—do something now.
After you’ve done this, take a moment to find the annual increase option with your 401(k) provider. Usually it’s on the same screen when you go to change your contribution amount. I’d like to urge you to sign up for one percent annual increases. This way, your contribution percentage will automatically increase by one percent every year.
Looking at the numbers we used above, this doesn’t even cover the annual three percent inflation—so I’d encourage you to do this now.
Tip #3—Diversify your investment mix
Your investment (or asset) mix is how and where your money distributes in your 401k account. There are two essential things to know about asset mix, specifically about a 401k:
- Where your current asset mix is
- Where your future contributions are going
Odds are they are the same, but sometimes they aren’t. For instance, if you change your asset mix, it usually defaults to where your future contributions are going, not the past ones. You may need to go in and rebalance your existing portfolio manually. (More on this below).
Typically, your asset mix is shown on the front page when you log into your account. Most providers show you a pie chart of how it all breaks down.
The goal here is to diversify that investment mix. To be cliche, don’t put all your eggs in one basket. We’ve talked about this at length, but I want to reiterate a few points.
First, by not diversifying, you’re not balancing your risk. If you invest entirely in a fund that focuses on energy stocks, your portfolio directly connects to the performance of that one sector. Likewise, if you think you’re cute by investing 100 percent in small-cap stocks, you’re betting that these growing (and often boom/bust) companies will carry you into retirement by themselves.
You should have a healthy mix of stocks and bonds in your portfolio. If you’re not willing to invest the time and energy in looking into each of the funds offered by your 401(k), you might be missing out on opportunities. That said, not everyone has a keen understanding of some of the financial reports these funds put together to know the best option. So you can do one of three things to diversify your investment mix:
1. Pick a target-date fund
Choosing a target-date fund is the most straightforward method, but it might also be the most expensive. A target-date fund allows you to select a fund that aligns with your expected retirement date (i.e., 2060) and the fund will select investments that match up with that goal. For example, it might focus heavily on stocks now since you’d be 40+ years away from retiring, but closer to 2060 it would have “safer” investments like bonds take up the majority of the portfolio.
2. Pick a diversification mix based on your age
We’ve provided rough estimates of how you can diversify your portfolio in this article, but remember that this is just an estimate. For instance, if you’re in your 20s, you might put 60 percent of your portfolio in domestic stocks, 40 percent in foreign stocks, and nothing in bonds. To do this, it will require you to know a little bit about each of the funds offered by your 401(k) provider.
3. Have someone do it for you
I strongly recommend getting targeted investment advice. I’ll discuss this more below, but you might find your best option just to pay someone to manage your portfolio for you. Properly diversifying your investments can be a hassle, and if you might be leaving huge chunks of money on the table in the long-run if you do it incorrectly.
Tip #4—Rebalance frequently (but not TOO frequently)
Rebalancing your portfolio is a necessary (and often annoying) part of owning a 401(k) account. As your portfolio grows, those target categories you decided on before will become imbalanced. Your 60 percent in domestic stocks may soon be 75 percent as those investments grow, shrinking the other investment classes.
Sometimes, your 401(k) plan may be able to do this for you, but I don’t recommend it. Your broker will usually ask you how often you’d like to rebalance and they’ll do it for you. The challenge is you can’t time the markets appropriately or review other options when the time comes to rebalance.
If you’re going to do this yourself, do it right. As we’ve already outlined, you can do this in three steps. What I want to call attention to is the fact you’ll need to stay in touch with your money, which isn’t for everyone. You’ll need to check your balances and rebalance regularly. Meaning you’ll need to buy and sell shares of the funds you own at a regular interval, to keep the balance in check.
For example, if you’ve decided you only want 60 percent in domestic stocks, but when you do your portfolio review it’s sitting at 75 percent, you’ll need to sell shares and move money to the other categories to rebalance it. The math on this can be tricky, so I recommend using ballpark figures and not obsessing over exact percentages.
You’ll also want to look at the cost. Most 401(k) providers will charge a fee when you move money from one asset class to another, primarily if you’ve only held that fund for a short period. Make sure you know what this will cost you and time the move appropriately.
I recommend rebalancing between one and four times per year. You don’t want to wait longer than a year to revisit your asset allocation, but if you do it more than quarterly, you risk missing out on the growth of some of your funds (and paying a premium, too).
For those of you that elect to use a target-date fund or have a person or service managing your portfolio for you, you don’t need to worry about rebalancing yourself—just keep an eye on what changes are being made on your behalf.
Tip #5—Use Blooom to grow your 401(k)
By this point, you’ve managed to locate and log into your 401(k) account, and you’ve learned everything you possibly can about your plan. You’ve also (hopefully) increased your contribution amount and spent some time researching and choosing an asset mix that is appropriate for you. Finally, you’ve come up with a plan to rebalance your portfolio at regular intervals.
Like Jesse Mecham lays out in his book You Need A Budget, to be successful with your money you have to have a plan. You have to be intentional with checking in on what your money is doing. It can be time-consuming, but it’s the only way to ensure you’re on track with your plan and your meeting your financial goals.
That’s a lot of work though, right?
That’s why I’d strongly recommend getting some help if you either, a) don’t know what you’re doing, or b) don’t have the time to dedicate to your money.
Blooom: Relax, and grow your 401(k)
Blooom is a roboadvisor that will manage your 401(k) for you entirely. You start with choosing a risk tolerance, and blooom will make recommendations for you based on your age, income, and other factors. From there, you will connect your blooom account to your 401(k) account, and that’s it. Blooom does the rest.
They’ll choose your asset mix, based on what’s available in your plan, and rebalance at optimal times so you’ll save the most money on rebalancing and take advantage of expected areas and times of growth.
My educational background is in finance and advanced investments, so I’m comfortable with understanding financial reports and how the stock market moves. Until recently, I’ve always managed my investments because I knew what I was doing and it worked for me. But as I grew in my career and had a child, I found less and less time to manage it. So I decided to look into services that could manage my funds for me.
The initial 401(k) analysis that Blooom will run will cost you absolutely nothing. The company then charges what I feel is a minimal fee per month ($10) for managing your 401(k) on an ongoing basis. But I ask that you do what’s best for you. Consider how much your time is worth and whether you’re able to dedicate the time to make the best investment decisions possible for your future. If not, I’d at least suggest giving blooom a spin.
Tip #6— Hire a financial advisor
Another option you have is to get targeted investment advice by hiring a financial advisor. But I would not recommend that route. In my opinion, that’s the old-school way of having your money handled. It can be confusing (what are they doing with your money?) and expensive (what are they charging you?).
Please know that this not a knock on financial advisors. I just feel that it’s more work than it’s worth to learn that information. A friend of mine has a financial advisor who manages (among other things) her 401(k). She has to meet with him multiple times per year to review their finances. No thanks. I’d stick with the roboadvisor.
Let’s summarize the five tips for managing your 401(k):
- Know the details of your 401(k) plan
- Increase your contribution right now
- Diversify your portfolio
- Develop a rebalancing plan
- Get help with your investments
Getting in touch with your 401(k) is critical. You need to know as much as you can about your program and where your hard-earned money is going. These five tips will help you manage your 401(k)more efficiently and plan for (an early) retirement.