As we near the close of 2008, some people will consider adjusting their retirement plans. Although rebalancing may be unrealistic right now, there are some things you should consider. For example, if you don’t currently invest in a retirement plan, get one now. You may also discover that you have new retirement plans available, including a Roth 401K. If it’s available, it’s worth considering a switch.
Enroll or Increase Contributions
Most employer-provided retirement plans only allow contribution level adjustments or enrollments during designated open periods, which are usually quarterly. Check with your plan administrator to find out when your next adjustment period is. If it’s not open now, it will be soon.
If you received a raise and don’t have credit card or other high-rate debt, boost your contribution to include the raise. You won’t miss it if you never see it in your take-home pay. If you do have debt, use the raise to pay it off, first. After the debt is gone, put the money towards retirement or savings rather than fritter it away on this and that.
If your company offers a match, boost your retirement contribution at least enough to receive the full match. Not all plans offer a match, but it’s free money if yours does.
For 2009, the government imposes a 401K contribution cap of $16,500 for most people, and $22,000 for people over 50. Your employer may impose a lower cap. If you’ve reached the cap, good for you. You can still find more ways to save for retirement, though. Depending on your income, you could open an IRA or Roth IRA,. You have until April 15 to contribute for 2008, or you can start your 2009 contributions on January 1.
Rebalance Your Retirement Plan
Because stocks don’t perform the same from year to year, it’s usually important to rebalance at least annually unless you have a broad selection of index funds or a target-date fund. A basket of stocks or a range of mutual funds in different sectors may need to be rebalanced more than once a year, but no more than quarterly. Use the asset allocation and portfolio allocation tools available through your retirement plan, Quicken, or online financial services to see if your portfolio still matches your preferred asset allocation and risk level.
If one sector outperformed, a specialized fund or specific stock could push your portfolio out of balance. If a fund manager changed, you could find that your fund is more or less risky than it was when you invested in it. Your rebalancing period is the best time to bring your portfolio back in line with your age and risk tolerance.
This is a sample portfolio asset allocation chart from Quicken 2005:
The next chart is a sample target asset allocation chart from Quicken 2005 based on my time-frame and risk comfort level. In my case, it’s more than five years and I have a high tolerance for risk (because I’m still young.) The more risk you’re willing to take, the higher the return they estimate you’ll receive:
Avoid tinkering too much, though. This is your retirement fund, so you don’t want to be swapping rapidly in and out of stocks or funds or taking big gambles. If you want to do that, use a separate, non-retirement account.
This year, be mindful of tinkering too much. Unless you’re sure that a particular sector will be declining for a long time (real estate and the US auto industry come to mind), avoid making heavy shifts into or out of any single sector right now. There’s too much unpredictability in the market and you don’t want to miss out on a recovery in one segment because you focused on another.
Change Retirement Plan Options
Now that Congress has made the Roth 401K option permanent, more employers are starting to offer it. Like the Roth IRA, the Roth 401K is funded with after-tax contributions, but employer matches are funded with pre-tax dollars. The funds are subject to the same contribution caps as traditional 401Ks.
The main difference between a traditional 401K and the Roth is the tax treatment at withdrawal. Earnings on Roth 401K contributions are not taxed at withdrawal if they’ve been in the fund more than 5 years and you’re older than 59 ½. The Roth 401K is best for people who are currently in low tax brackets, but expect to be in a higher tax bracket after retirement. If you’re a younger worker in a growth field, the odds are good this will be the case. A Roth 401K may also be worthwhile if you currently have several deductions, such as mortgage interest or dependents, that you won’t have in retirement.
Unlike the Roth IRA, there are no income limits for the Roth 401K, but you must start taking withdrawals at age 70 ½.
If you already have a 401K, you can’t roll it over into a Roth 401K, but your employer may allow you to open a new account. If you change employers, you can roll your old 401K funds into an IRA, and then start a Roth 401K fresh with your new employer.
It’s a safe bet that Congress and our new President won’t find a way to fix social security this year, but you can protect yourself by investing in your own retirement. Even if rebalancing isn’t a good idea right now, consider increasing your contributions or opening a new type of plan, if available. Stocks are dirt cheap right now – and that usually means it’s a good time to buy if you invest carefully.