Is your business facing financial strain from the impact of COVID-19 shutdowns? If so, you're not alone. According to a recent survey by the Plan Sponsor Council of America, 16.1 percent of organizations have suspended matching employer contributions due to financial hardships caused by COVID-19. Worse yet, 1.3 percent of businesses have terminated their 401(k) plans altogether.1 Millions of Americans rely on their 401(k) and matching employer contributions to bolster their savings for retirement.
If your employer has recently made an adjustment to its 401(k) offerings, you may be considering how this could impact your future retirement - and what next steps you should be taking.
Are 401(k) Plans Still Good Vehicles Even Without Matching Contributions?
Like most foods we eat, 401(k) plans still have their place in our diet. In moderation, they can still be very useful tools.
What Benefits Do 401(k) Plans Still Provide?
There are a few major benefits to 401(k) plans even without matching contributions.
#1 - Tax Deferral
For those of you in high tax brackets, the power of tax deferral is the major draw. Being able to take a portion of your income that you and your family don't need to consume today, and kick the income out into future years could be very beneficial. The problem with tax deferral is that we don't know what the tax environment, or our own income tax situation, will be in those future years. With national debt creeping higher and social security strains looming in our country, could we be headed for a future with higher income tax rates? If so, is deferring savings to a later date a good idea? This is where moderation comes into play. While deferring taxation might be a great idea, given the uncertain nature of the future tax environment, we recommend resisting the urge to use this as your exclusive savings vehicle.
#2 - Forced Savings and Automatic Investment
This cannot be understated. 401(k) plans are the only savings vehicle the majority of American workers fund. By utilizing paycheck deductions and automatic investments, Americans are simply saving where they wouldn't otherwise. Obviously there are other ways to accomplish this, but many times we don't take the time to learn our options here. Regardless of where money is being saved, the most important thing is that money is being saved. As a result, we would encourage those without a financial plan to continue with their 401(k) contributions and even increase them to offset for the loss of matching contributions.
#3 - Roth Options
Most 401(k) plans today have the ability to accept post-tax Roth contributions. For the same reasons tax deferral creates future risk, Roth contributions allow you to offset that risk. While single workers making above $139k of MAGI and married couples above $206k of MAGI are ineligible for Roth IRA contributions, there are no income limits on Roth 401(k) contributions. This means you can contribute up to $19,500 into a Roth 401(k) plus additional catch up contributions if you are over the age of 50.
Are There Any Downsides to 401(k) Vehicles?
There are a couple. The first is use, liquidity, and control. Your 401(k) plan locks money away until your retirement years. While this is the purpose, we have no way of knowing what life may throw at us. Make sure your liquid assets are high enough to justify moving these chips off the table.
Secondly, 401(k) plans typically contain asset-based charges that help offset the cost of custodians, advisors, and plan administrators. It's important to read your plan documents or ask your plan custodian what these charges may be. They are above and beyond the charges in the investment vehicles themselves and are often hidden to the participant if the participant doesn't know where to look. While these are usually less than 1% of the asset base, they can still create a drag on investment performance.
What Should You Do if Your Matching Contributions Are Suspended?
In the case that your employer does suspend matching contributions, there are a few next steps you can take to help maintain and grow your retirement savings.
1. Resist the Urge to Panic
Having an employer suspend matching contributions, even if it’s only temporary, is a sign of the times. We’re facing a global pandemic, the stock market’s unpredictable and people are worried about money. If you’re wondering if you’d be better off draining the account and having that money under the mattress instead, you’re likely not alone. And if you’ve been personally impacted by the coronavirus, you can even withdraw up to $100,000 penalty-free as part of the recently passed CARES Act.3
But the truth of the matter is, you should be making decisions about your money with objectivity - not gut reactions and emotions heightened by media. Withdrawing any amount from your 401(k) now will only rob your future retirement. Unless you’re in dire need of financial assistance, this option should be avoided.
2.Create a Long-Term Tax Strategy
Most tax strategies are focused on saving money in the current tax year. While helpful, this could be a mistake in the long-run. While predicting the tax rates at your retirement age is impossible, try to use the current economic data to create a strategy that accounts for the potential risk of higher taxation in the future. It might be wise to fund Roth and Traditional 401(k) buckets to create more options in retirement.
3. Revisit Your Portfolio & Other Retirement Accounts
The market is volatile and economic confidence is low amongst investors. If you haven’t already, use this as an opportunity to reevaluate your current asset allocations and investment strategies. Your advisor may be able to help you identify potential areas for improvement based on your current tolerance for risk.
4. Whether You Decide to Contribute To Your 401(k) or Not, Make Sure Whatever You Decide To Fund is Automatic and Disciplined
Don't use this epidemic and loss of employer matching contributions as an excuse to forgo long-term savings entirely. The 401(k) is not the only option for saving, but the automatic nature of it makes it easy to accumulate wealth. If you make a decision to move away from the 401(k), make sure your other investment accounts are funded with automatic ACH contributions so as to keep your retirement goals on track. We can't stress this enough.
As always, we are here to help! Let us know if you'd like some help reviewing your current long-term savings strategy so you can keep your family on track during these challenging times.