During a bear market, many retirement investors watch the accumulated earnings of their 401(k)s dwindle. When you invest, you assume a certain level of risk (the likelihood that your holdings will decrease in value). One of the most challenging aspects of investing involves matching your tolerance for risk with your investment objectives. Everyone wants a comfortable retirement, but the road you take there will depend on your specific situation.
Beyond Your 401(k)
Have you taken the time to really project the amount of money you'll need during retirement? While setting aside a percentage of your income in a 401(k) is an important step, chances are you will need more than current limitations may allow you to save. Most people supplement their employer-sponsored retirement benefits and Social Security income with personal investments. In order to develop a fitting plan, you need to have your goals in sight.
In 2010, you are allowed to defer $16,500 of your income in a 401(k). Those who are age 50 or older may defer an additional $5,500. While the contribution cap is scheduled to rise in upcoming years and your employer may match contributions above this limit, will your employer-sponsored plan allow you to save enough? Cast your net as far as possible—can you contribute to your 401(k) and afford to invest in other opportunities? Increasing your savings rate now will most likely help you later.
Asset Allocation and Diversification
Are you an aggressive, moderate, or conservative investor? Your answer probably depends in large part on your stage in life and your financial resources, and it will most likely change over time. Aggressive investors tend to have a longer time frame—as many as 35 years or more to save and invest until they reach retirement—accompanied by a greater capacity to withstand loss. For example, stocks may account for 85% of a relatively aggressive portfolio, compared to 40% for a more conservative portfolio. As investors near retirement, their asset allocation strategies generally change to account for lower risk tolerance and an emphasis on income over growth.
With a 401(k), you are responsible for managing your portfolio, not your employer. While one aspect of a retirement savings plan is investing for the long term, it is still important to stay involved and make adjustments as needed. Choosing to be an active money manager rather than a passive investor can help you maintain the appropriate allocation strategies and achieve your long-term goals.
You should also consider diversifying within asset categories. For example, spread your equity investments among large-cap, mid-cap, and small-cap stocks, as well as vary your fixed-income investments with different types of bonds and cash holdings. The diversification strategy you choose for your 401(k) should complement your strategies for investments outside of your retirement plan.
Because retirement plans offer certain tax benefits, they carry certain restrictions, such as when withdrawals can be made without penalty. While funds in a 401(k) are made with pre-tax dollars and have the potential for tax-deferred growth, withdrawals made before the age of 59½ may be subject to a 10% federal income tax penalty, in addition to the ordinary income tax that will be due.
If you are looking to save specifically for retirement in addition to your 401(k), consider a Roth IRA, which allows earnings to grow tax free. While contributions are made with after-tax dollars, your withdrawals will be tax free provided you are older than age 59½ and have owned the account for five years. Early withdrawals of Roth IRA earnings may be subject to a 10% federal income tax penalty, unless you qualify for an exemption. Income limits apply in determining one's eligibility to contribute to a Roth IRA.
Taking advantage of the tax benefits retirement arrangements offer is a valuable strategy, but you should also consider building more liquidity and flexibility into your overall savings and investment plan. In the event you need access to funds before retirement, have a contingency plan, such as an emergency cash reserve and relatively liquid investments. However, always bear in mind how accessing savings in the short term will affect your long-term goals.
As you look toward retirement, consider increasing your overall savings rate, maintaining appropriate asset allocation and diversification strategies, and planning for taxes. Over time, your investments will inevitably be affected by legislative reform and market swings, but with a long-term outlook and continued involvement, you are better positioned to manage the fluctuations and changes to achieve your objectives.
Investment returns and principal values will change due to market conditions, and, as a result, when shares are redeemed, they may be worth more or less than their original costs. Past performance is no guarantee of future results.
While diversification through an asset allocation strategy is a useful technique that can help to manage overall portfolio risk and volatility, there is no certainty or assurance that a diversified portfolio will enhance overall return or outperform one that is not diversified.
Pursuant to IRS Circular 230, MetLife is providing you with the following notification: The information contained in this document is not intended to (and cannot) be used by anyone to avoid IRS penalties. This document supports the promotion and marketing of insurance products. You should seek advice based on your particular circumstances from an independent tax advisor.
MetLife, its agents, and representatives may not give legal or tax advice. Any discussion of taxes herein or related to this document is for general information purposes only and does not purport to be complete or cover every situation. Tax law is subject to interpretation and legislative change. Tax results and the appropriateness of any product for any specific taxpayer may vary depending on the facts and circumstances. You should consult with and rely on your own independent legal and tax advisers regarding your particular set of facts and circumstances.
This article appears courtesy of Paige Quilter. Paige is a Registered Representative with Metropolitan Life Insurance Company and MetLife Securities, Inc. She focuses on meeting the individual insurance and financial services needs of individuals and businesses in Richmond, VA and surrounding communities. You can reach Paige at MetLife Mid-Atlantic Financial Group at (804) 282-7522 x139
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