Is a lousy 401k still worth it?

[amy]

Can someone explain to me how I might figure out whether my pitiful 401k is still a better option than the after tax alternatives?

I'm in the 28% tax bracket, my employer offers no matching contribution and the S&P 500 Index fund offered by the 401k provider has a 1.25% expense ratio.

My 401k provider buries their expense ratio information pretty well and I only today found it. I'm flabbergasted (or maybe I just want a reason to use that word) when Vanguard's S&P500 index fund has an expense ratio of 0.18% to see the same type of fund with a 1.25% expense ratio.

But what's worse, it's the lowest expense ratio in the list!

Wondering if I should ditch the 401k entirely and start investing after tax only. Need to see the math though.

Conventional wisdom says that it is always better to put money into tax-deferred account. The math is relatively simple. For the tax account: Ending balance = beginning balance + investment + return - tax. For tax deferred account: Ending balance = beginning balance + investment + return. The ending balances will become the beginning balances for the following year. Since the tax burden is small because of the indexing, you might be better off with a taxable account if the return varies by over 1% (1.25-.18%).

Do the math (on a spreedsheet) and find out. You should be able to find the capital gain distribution from Vangaurd's site to determine your tax burden.

You might consider a tax-advantage fund or ETF (even though an index fund is also tax efficient.)

Paul

[charlie]

Hi amy,

A combination of Vanguard's Total Stock Market and
I-bonds to suit your risk tolerance might be a better
deal than your 401k. Vanguard's Tax Managed Growth
and Income is a 500 Index fund that has a 0.17%
expense ratio.

Good Luck!

Charlie

[JohnP]

Hi Amy

I and my wife have lousy IRAs. Ours never had company-match either but we used them to accumulate cash for retirement; the IRA and 401(k) are pretty good tools for you to use for that retirement. As long as you are working and contributing to your 401(k) then you have a 28% advantage tempered by the 1.25% expense ratio. Your 401(k) would be better with a matching contribution but it's probably not going to happen. In any case, you are saving money tax sheltered and any appreciation is also tax sheltered.

There are limited options and these will be specified in the details of your company 401k program. Can this be rolled over at some time to an outside IRA? Can you get involved with the 401k committee to improve the choices for funds and/or the provider organization?

(1) keep the 401(k) as long as you must at your employer. If you change jobs roll over the 401k into a IRA at a low cost provider such as those discussed here.

(2) start investing in a low cost after-tax account

JohnP

[edwardc]

Hi, Amy,

You might be interested in the article I wrote a few years ago on 401k plan expenses and the spreadsheet I developed for the analysis. You can change the parameters in the spreadsheet to reflect today's tax rates and expected returns.

Ed
http://www.ed-chang.com