401k’s not always good

    The stereotype is that everyone should max out their 401k contributions.

Reasons against 401k contributions:

* Retirement accounts create problems including double taxation of them at up to 85% for people wealthy enough to have to pay estate tax

* People who want to start a business or buy a home (large down payments may be required in today’s tight lending standards) need access to their funds (although there are some restrictive work-arounds to this that may be available)

* If long term capital gains or U.S. Treasury income (U.S. Treasury interest is free of state income tax) is generated in a tax deferred retirement account they lose their special tax status and when withdrawn from the account they are taxed as ordinary income

* Capital Gains tax is waived by using basis step-up at death for assets in a taxable account but not in a retirement account

* There is no long term capital gains tax treatment for assets held in a 401k. Thus if someone seeks to buy stocks they should be held in a taxable account for the best treatment.

The other side of the story:

Traditional reasons to get a 401K:

* Get the employer’s 3% matching contribution

* Assets may be protected from court judgments, depending on complex rules

* Encourages people to avoid spending their savings

* Encourages people to avoid speculative short term trading

* Encourages people to save for retirement

* Shift income into future years when retired when maybe in a lower tax bracket

* Access to low cost Institutional class (I class) mutual funds in some cases

* Access funds through early penalty-free withdrawal at age 55 in unemployed

       Generally the reasons against a 401k are only applicable to people wealthy enough to pay estate tax. But with inflation and a need to raise taxes it is possible that in a few decades people who are middle class will have the potential to come close to paying estate tax. That would depend on how long they live and what excessive medical costs they encounter, assuming Medicare in the distant future has huge “means testing” fees.

     I have written an article “Six things you must know about 401k risks”.


        Investors should seek independent financial advice.