Published: March 24, 2008 05:26 pm         

Make the most of the underused, misused 401(k)

Money Matters

The 401(k) retirement plan will be playing a greater part in our workaday and after-work lives, but only if we use it to its fullest and don't abuse it.



With each passing year, as more and more people retire, the role of our personal savings, including our 401(k) savings, increases and increases. We are becoming more dependent on our own use of retirement savings vehicles, of which the 401(k) is the most common. We are becoming more self-sufficient in retirement.



How you use and how you don't use your 401(k) will determine the kind of retirement you have. It's that simple.



Unfortunately, many 401(k) participants are underusing their 401(k)s. These underusers will have to work longer or live a restricted retirement. In 2004, the median household 401(k) account was only $60,000 for a head of household ages 55 to 64, based on a Federal Reserve study.



A later Investment Company Institute survey found workers in their 60s averaged only $157,000 in their 401(k)s. These participants are not taking full advantage of these self-directed plans.



Fortunately the federal government recognized that workers are poor investors and that the pending retirement-income shortfall will place a serious burden on public funds in the decades ahead. To help remedy this situation, the Pension Protection Act of 2006 gives employers and 401(k) plan sponsors the authority to automatically enroll eligible participants and make prudent investment choices for the participants.



Since many employees are not fully using their 401(k) plans, employers can now act for their employees' benefit. And employers are underusing their 401(k)s if they don't update their plans and fully exercise their new authority in increasing participation and in placing employees in appropriate investments. If you are an employer offering a 401(k), make sure you have your plan documents updated to include the new provisions.



Underuse by employees and by employer-sponsors is no less serious than the inappropriate use of 401(k) funds. As an adviser and fiduciary, I strongly object to 401(k) plans that allow participants to withdraw money prematurely (before the retirement for which they are intended) for nonhardship situations.



In too many cases, 401(k)s are being raided for cash like people used to raid their home equity. Your 401(k) is not an ATM for vacations, college expenses or weddings. Even if you replace the withdrawn funds over time, you took money out of the market and you will never be able to make up for the earnings the withdrawn funds didn't make.



The Transamerica Center for Retirement Studies found that 18 percent of all participants had loans outstanding from their 401(k)s in 2007, up from 11 percent in 2006. The study indicated that 49 percent of those taking premature withdrawals from their 401(k)s did so to pay off debt. There seems to be a high correlation in the parts of the country where 401(k) loans and foreclosure rates are high.



To discourage participant borrowing, some employer-sponsors are adding fees for loan origination and servicing. As a plan fiduciary, the employer could be considered complicit when there is frequent borrowing for nonhardship cases.



Whether you are an employee participant in a 401(k) or an employer-sponsor, take heed of the ways these plans, which are increasingly more important for our future, may be subject to underuse or misuse in the present.



As employees and employers become more sophisticated with 401(k) plans in time, you can expect employers will be making independent advisers and planners available to help participants establish meaningful accumulation targets for their retirement accounts.



Until employers pony up for that extra expense, individuals, who see the value of professional advice, are on their own. But individuals are less on their own now if their employers have adopted provisions of the Pension Protection Act of 2006.





Donald E. Askey is a certified financial planner and a registered investment adviser with Provident Financial Advisors, located at The Provident Bank in Amesbury and Newburyport, Mass., and a registered representative offering securities through Commonwealth Financial Network, member FINRA/SIPC. For your money-related questions, write planning@providentfinancialadvisors.com or call 877-815-8500. His Money Matters columns are published by The Daily News of Newburyport, Mass.