A Better 401(k)
For the majority of people, a 401(k) is the main vehicle used to save for retirement.
The popular employer established retirement savings plan is funded by salary deferrals. The money contributed is often matched by the employer up to a certain percentage of your salary. But employers don’t have to match the employee’s contributions.
401(k)s enjoy some nice tax benefits such as allowing contributions on a post-tax or pretax basis. And earnings accrue on a tax-deferred basis.
The amount of money an employee can contribute to a 401(k) is capped at $17,500 per year in 2014 and people older than 50 can contribute up to $23,000 per year.
Here’s the thing…
The vast majority of 401(k)s have a limited number of funds for employees to choose from. And they’re typically all mutual funds.
It’s no secret I prefer ETFs over mutual funds for a variety of reasons.
As you know, ETFs track indexes. Most of them are unmanaged and hold a basket of stocks and you can see exactly what the fund holds at any given time. You can trade any ETF just like a stock. And most importantly, the cost of owning an ETF is typically much lower than owning an actively managed mutual fund.
Thankfully companies like TD Ameritrade and Charles Schwab have introduced a 401(k) based solely on ETFs. According to Charles Schwab, their new ETF based 401(k) will cut a typical investor’s costs by more than 90% versus a traditional 401(k)!
Investors typically see 60 to 85 basis points paid out per year for a 401(k) of actively managed mutual funds. But with Schwab’s ETF based 401(k), investors will only pay 10 basis points or less.
Needless to say, that’s a huge cost savings. And when you take into account the impact of compounding over years, the impact will be a dramatically larger nest egg when you retire.
Demand for ETF based 401(k)s is growing fast. TD Ameritrade launched their ETF based 401(k) more than two years ago. And over the last year, total holdings in these plans jumped 74%.
Here’s the upshot…
The introduction of Schwab’s ETF based 401(k) is good news for investors. As their sales force hits the streets to pitch companies on the benefits of their ETF based 401(k) versus traditional mutual fund based 401(k)s, we should see them adopted quickly over the next few years.
If your company is still offering a traditional mutual fund based 401(k), let your HR department or manager know there’s a better way to grow your retirement savings.
Good Investing,
Corey Williams
Category: ETFs
