Most of my clients want to maintain, if not increase, their lifestyle in the Golden Years. This comes at a cost.
Affluent individuals may find Social Security, pensions, and retirement distributions sending them into a higher tax bracket than initially planned for. Not to mention the fact that many of their previous write-offs may no longer be available. Dependent kids may have moved out. The mortgage interest may be paid off. Etc.
Also, today's tax rates are not set in stone. With the United States already having more than $21 trillion of national debt, there could, possibly, be a slight chance tax rates could go up at some point…. Don't you think?
- Then I'll keep deferring.
No your client won't.
The IRS wants its tax revenue, so by age 70.5, your client must begin taking required minimum distributions. Failing to take RMDs can result in a 50% tax penalty.
- This money is just for retirement.
It certainly is.
Unfortunately, life isn't lived in a laboratory. Sometimes the unexpected occurs. Participants in 401(k) generally are not allowed to access their funds before age 59.5. Doing so may incur a 10% penalty on top of additional income taxes.
Your client's plan may allow for hardship withdrawals and let the client waive the penalty for some purposes. Such as: to buy a first home, pay unreimbursed medical expenses, or pay college bills.
The client's employer plan may provide another option: to take a 401(k) loan of up to $50,000, or 50% of the plan balance, whichever is less.
Either way, the client has to be prepared to jump through some hoops or pay a stiff penalty if the household happens to need extra cash at the wrong time.
- I can invest in whatever I want.
Not really: 401(k) plans have limited investment options, typically confined to mutual funds and, sometimes, exchange traded funds.
- My retirement plan at work is free.
Nothing is free. A 401(k) carries administrative costs and its underlying investments still hold fund fees based on company and management activity. Some 403(b)'s for school systems even use a variable annuity chassis that can carry even greater fees and restrictions.
The 401(k) definitely has a place in today's retirement planning environment, offering several smart incentives like automatic payroll deductions and sometimes a very valuable employer match. Some plans have also begun offering a Roth option to combat some of these tax woes. But, as we've seen, there are a lot of strings attached that a participant must be aware of.
Your clients must carefully consider market risk, current and future tax liabilities, and liquidity before making any investment decision.
(Image: Thinkstock) 
