Tuesday, April 8, 2008

The Dirty Little Secret About Your 401(k) Plan That You Aren't Supposed To Know


Do you have a 401(k) plan that you make contributions to? What about a Simplified Employee Pension? An Individual Retirement account? It doesn't matter what the title is, what matters is that the money you have in those accounts will be 100% taxable.


Don't misunderstand, the percentage of tax you pay will not be 100%, although it will be high. What I am stating is that every dollar in the account has not had ANY tax paid on it. So, it is 100% taxable.


Tax deferred savings plans are sold on the premise that A.) It will cost less to live in the future. B.) The amount of tax we pay will be less in the future, since we will have less income.


How anyone could possibly think it will be less expensive to live in the future doesn't do the grocery shopping.


Secondly, if it will cost more to live in the future, how is it possible that we would need less income in the future? More importantly, who would want less?


Here is the dirty little secret I am talking about. The best way I can explain it, which I have been doing for a number of years now, is to ask yourself, what 401(k) actually represents.


It represents a reference to the Internal Revenue Service's code, or tax law that covers tax deferred savings plans. Few people know very much about their retirement plans, so I think it is time to disclose the truth about how we , Americans, are being set up to fail.


Now that you know what 401(k) represents, ask yourself this question;


Is it a logical assumption to think that our government, who has trillions in debt, and runs a deficit every year, would devise a way for you to pay LESS in taxes?


I don't think so, and I will tell you why:


1. PROBLEM: The Baby Boomers are coming of age, and they are going to demolish the Social Security Plan. Since Congress raided the Social Security Trust fund like a band of pirates, and spent the money leaving nothing but some worthless I.O.U's, there is no money. There is no surplus. Social Security is a pay as you go plan these days. RESULT: The ONLY way to salvage the Social security plan is to either dramatically CUT benefits by extending the age of eligibility (which they have already been doing) or to raise taxes.


2. PROBLEM: Medicare is scheduled to be broke sometime around 2019. The first Boomers, who were born in 1946, will only be 73 years old at that time. Life expectancy is about 88 years now, so they will be on it a while. There were about 76MILLION babies born between 1946-1964. Medical costs are climbing at 4 to 5 times the inflation rate. RESULT: There is no mathematical way this program can sustain itself, in it's present form, without shifting more costs to you, or raising taxes. Or a combination of both.


3. PROBLEM:The infrastructure in the U.S. is crumbling, and needs repair. Bridges and roads are falling apart. RESULT: Not too long ago there was a bridge that collapsed in Missouri from neglect. It is the just an indicator of the condition of our transportation system. This will cost hundreds of billions above current highway and gasoline taxes currently being collected.


4. PROBLEM: The inflation rate in this country is being skewed by changing the components of the calculations. RESULT: The result is lower numbers and a false sense of security. As if that wasn't bad enough, with countries like China and India who each have populations in the BILLIONS putting pressures on consumable and durable goods, the prices we pay have no where to go but up. Our monetary policy is in distress. Look at the banking business.


5.) PROBLEM: State governments are being heavily burdened with unfunded mandates from the federal level and most are running deficits. RESULT: State taxes and property taxes will have to rise. Medicaid is a primary culprit.


6. PROBLEM: The average American family, in particular, Baby Boomers, are seriously in debt and will not likely escape the debt trap before retirement. RESULT: Serious cash flow problems in retirement and a loss of a huge part of our lifetime earnings to banks and credit card companies.


So, here is where your retirement monies come in to play.



  • If all of the money is taxable and taxes go up, which they will, you will have less of it to spend and you will need to withdraw more if it each month. This will cause your money not to last as long.

  • If Social Security cuts benefits or raises taxes, you will need more of your retirement money each month to survive. See above item.

  • If Medicare cuts benefits you will pay more of your health care costs at a time when you are more likely to need benefits, placing additional pressures on your savings.

  • If it will cost more to live in the future, which it will, your future dollars will not buy as much, and you will need more to survive. You will probably outlive your money.

  • If you are not debt free before you retire, a large portion of your retirement money will go directly to your creditors. the sacrifices you made to save it would be for nothing.

That's bad news, here is the good news. There is a chance to avoid this mess. You MUST get out of debt NOW. As fast as possible, including your mortgage.


The money you are placing in a 401(k) plan would be better used to pay off your debt. You will save thousands of your own dollars, and you will alleviate the cash flow pressures you are destined to experience in the future.


While I am not a conspiracy theorist, I can tell you that if I am smart enough to see this stuff, you can bet the farm the government knows it too. There are trillions of dollars in 401(k) plans and tax deferred plans and the government can't wait to get their taxes on it.





2 comments:

Anonymous said...

I am wondering whether it would pay to keep a sizable amount of money in just simple savings accounts.

That way you could take only very small amounts out of your 401k, triggering the least amount of taxation, and just supplement that by what is in savings.

Anonymous said...

As mush as I wish I could say that strategy would be effective, I can't. In many cases, there is a minimum distribution requirement, and in the case of IRA and 401(k) plans you MUST begin taking money out by age 70 1/2 .

The moral of the story is that the SMARTEST move you can make is to pay your taxes TODAY (don't defer them), (IF your contributions are matched, be sureto ake advantage of the free money) and utilize a tax free vehicle like municipal bonds to minimize federal taxes.

This strategy coupled with a serious commitment to become debt free will do more for your pocket book than most can imagine.