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The Portfolio Solutions® Checklist for Managing Your 401(k)

When you participate in a company’s 401(k) plan, you have to play the hand you’re dealt. Your only options are the benefits and investments offered by your employer and the 401(k) provider. The limitations of 401(k) plans prevent many investment advisers from providing guidance, leaving participants to invest on their own.

They could use some help. In a 2014 national survey of 401(k) participants by Charles Schwab & Co., half said they were more confused by their 401(k) plan investment information than their health care benefits information. Nearly 60% wished it was easier to choose the right 401(k) investments. This may explain why participants, on average, spent about the same time researching cellphones as evaluating their 401(k) investment options.

Fewer companies provide pensions, meaning a greater share of future retirees will need to rely on 401(k)s and other defined-contribution plans for income. So, even if you’re dissatisfied with your plan, you should still make the most of it. To help, here is the Portfolio Solutions® checklist for managing your 401(k):

☑ Determine if a traditional or Roth 401(k) is right for you.

If your workplace offers a Roth as well as a traditional 401(k) plan, consider their differences. Traditional 401(k) contributions are made with pre-tax dollars that can grow tax-deferred. You get a tax break now and then pay taxes on withdrawals later at your future income tax rate.

Conversely, contributions to a Roth 401(k) are made with after-tax dollars and withdrawals are tax free, as long as you are age 59 ½ and have held the account for five years.

Are you better off paying taxes now or later? The answer depends on a reasonable estimate of your life in the future—mainly, whether your income will be higher or lower. When making this decision, seek the counsel of a professional tax adviser.

☑ Copy your appropriate asset allocation.

If an investment adviser manages your other investment accounts and he or she has recommended an appropriate asset allocation, replicate it in your 401(k). Your 401(k) asset allocation should also reflect your financial goals, your time horizon and your attitude toward risk. The mix of asset classes, such as stocks and bonds, is a major determinant of your returns.

☑ Pick low-cost index funds.

Generally, market-tracking index funds are lower in cost and more diversified than actively managed mutual funds. Costs reduce your returns, which is a primary reason why index funds tend to outperform actively managed funds over time. Plus, the odds the average active fund manager beats the market consistently are very low.

o   If index funds are not available in your 401(k) plan:

1.     Maintain a fixed asset allocation, as discussed above, with the funds provided; again, play the hand you’re dealt.

2.     Consider target date funds. A mix of stocks and bonds, these funds automatically adjust to become more conservative over time. Check their allocation every couple years to make sure it aligns with your desired risk level and growth needs.

☑ Investigate expense ratios.

Low investment costs mean more of what you earn is working toward your retirement. Cost is one thing you can control as an investor. Your 401(k) administrator should provide information on each fund in your plan. Look up their expense ratios and choose the cheapest funds that fit your asset allocation.

☑ Complain to HR.

If you are unhappy with the investments available in your 401(k) plan, bring up your concerns to your HR department. Your administrator may be able to modify the plan, or may consider switching 401(k) providers.

☑ Rebalance periodically.

Your 401(k) investments will perform differently, likely shifting your asset allocation. You may end up with more risk than desired. You can reduce risk by rebalancing your portfolio; reallocate some of what went up into what went down. Rebalancing your 401(k) at least once a year is recommended.

☑ Save more every year.

Saving is the easiest and surest way to wealth. Increasing your 401(k) contributions as your income rises is a way to increase the potential impact of compounding. At the very least you should allocate enough of your paycheck to take advantage of an employer match, if offered—that is free money for retirement.

☑ Don’t take RMDs (if applicable).

If you’re age 70 ½, still working for the company sponsoring the 401(k) plan and are not a 5% owner, you can still make contributions and are not required to take annual withdrawals. You do, however, have to take required minimum distributions (RMDs) from all of your other retirement accounts, such as IRAs and other 401(k)s.

Hopefully, this checklist will help you efficiently manage your 401(k) so that you see retirement in the cards.

For more information about turning your retirement savings into income, read our free e-book: Living Off Your Investment Portfolio.