401k scam or not? Taking the plunge..

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401k scam or not? Taking the plunge..

Specialist · Honolulu, HI · Member since 2014 · 1k+ posts · 1k+ votes

I have never been a big fan of 401k and retirement accounts in general that are invested in mutual funds. I have always thought of it as a "life deferral plan", you put money in, that is money that is lost from your life, does not pay you every month, poof gone.

Plus, most people have no idea what they are investing in. I love real estate precisely because of the control it gives me, and the monthly income. My RE investments already cover my basic monthly income.

However, after researching mutual funds for the last 6 months, and getting a lot of feedback, I decided to start contributing again to the TSP/401k. Every single physician colleague I have talked to, basically said I should be doing it as a way to lower taxable income, and diversify into a different class. The argument is, if you are a high income earner, it would be easy to contribute to a 401k/IRA and invest in real estate.

So against my better judgement, I have decided to take about $15K out of my last 3 paychecks of 2017 to fund the TSP. My real estate has returned 20-30% IRR since 2013, yet I am sitting trying to diversify a little into equities.

I wanted to know what you guys think: about 401k in general, my situation, and your own situation. Is it really a scam? If I wanted to retire around 40yo, are my funds in retirement accounts "stuck? I still see it as 'lost money' that I don't get to spend now, but enough clinical colleagues have convinced me to do it.

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Brian EastmanPro Member

Self Directed IRA & 401k Advisor · Wenatchee, WA · Member since 2014 · 2k+ posts · 2k+ votes

9y

A 401k retirement plan is certainly not a scam. It is a powerful vehicle for building future wealth.

When you contribute to a 401k or TSP style plan, you benefit in 3 ways:

1) in some cases you may receive an employer match. This is free money or a 100% return on investment, depending on how you want to look at that.

2) You receive a tax deduction for the income contributed in the year in which you make the contribution, reducing your tax bill. This is also effectively a return on investment on the money you contribute equal to your combined state & federal tax rate.

3) By contributing to the plan, you also reduce your overall taxable income, which may drop your tax bracket on the money you do pay income tax on.

So, on the front end, lots of positives.

Investment choices in many conventional retirement plans are limited. That is a potential negative. That said, even a moderate return compounded over time can add up significantly.

Earnings to the plan are tax sheltered. So, instead of diluting your return with taxation, you are accelerating the rate at which your money compounds.

Money in a qualified retirement plan will be locked up until you are 59 1/2, at which point you can begin to take distributions. The idea is that by deferring the taxation up front and on the earnings over time, you can balloon a small amount of annual contributions each year into a large sum from which you can support yourself in your retirement years once you have stopped working.

This is, of course an oversimplified version, but should clearly illustrate the benefits of tax-deferred retirement savings.

You can add to the above the ability to make contributions on a Roth basis and create tax-free income, as well as the ability once you change jobs to move an employer retirement 401k or TSP to a self-directed plan where you can invest those tax-sheltered dollars in things like real estate.

If you are a physician, I would assume you create reasonably significant income, even if you work for the government. I strongly suggest that you have a sit down with an independent financial advisor and/or tax strategist. I'm talking about a financial consultant, not a stock salesperson. You can chart a path that includes a mix of conventional retirement plan and outside investments such as real estate, and create multiple sources of income with different tax exposures.

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Jane Dang
Fremont, CA · Member since 2017 · 65 posts · 17 votes
9y
I say YES on 401k but you need to spend time on it as you do in RE. Most people just set the money in account and don't know where it goes. It ends up with very low returns. If you spend enough time to understand and select right funds, it will do pretty well. I am a professional in high tech industry with high pay. I also have a few rentals with high cash flow returns. 401k helps me to reduce my tax bracket. I always max out it every year. My company offers 5% dollar-per-dollar matching that adds extra to the account. My yearly return rate is 15+% which is pretty decent to me.
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Kevin Nguyen
Los Angeles, CA · Member since 2013 · 19 posts · 13 votes
9y
Add me as another proponent to 401ks. I'm also a high earning W2 health care professional and a 401k is a great way to lower taxable income. I agree that a 401k is another tool to add to the arsenal and shouldn't be the only source of retirement. It really boils down to how much 'work' do you want to do. Equities is simply just more passive than RE ... just how much time do you want to spend managing your investments while working as a busy physician?
As for using those funds prior to 59.5 y/o, look into Roth conversion ladders. A lot of great info already mentioned here already so not much for me to add, except I'd spend more time on Bogleheads for tax planning info. Plenty of smart folks over there.
My wife and I max out both our 401K's, max out backdoor Roth, and still have money to invest in RE.
1 Reply
Nate Kaminski
Specialist · Fredericktown, PA · Member since 2017 · 12 posts · 4 votes
9y
Not sure what your employer contribution is, at my job if I contribute 4%, my employer matches 4%. At my workplace, I chose the Roth 401k, as opposed to the standard non-taxed 401k. I prefer to be taxed now with it, because later down the road, I plan be in a higher tax bracket, so I'll only pay on the gains. 4% is not a lot of money, I know that. But where else can I get a 100% return on my investment? The simple answer is - no where. If this is the same situation for you, then I would only put in up to the limit where your employer matches, It's stupid not to.
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Aaron Hunt
All Over, USA · Member since 2017 · 689 posts · 756 votes
9y
I hear you OP. Also a physician here, just starting out, early 30s. Goals similar to yours. Class A with single units to avoid headaches while starting out. Lower cash flow but figured 30 yrs till hanging it up. While in residency I cleared my wife’s and my Roth IRAs and put it into RE. Most would say bad move or over-leveraged, but my income + hospital 401k w/ 3% match, and wife’s company 401k w/ 6% match made it a bit easier. My CoC return was very high due to equity appreciation. That rate if growth won’t sustain long term but the cash flow obviously should. My vote is 401k w/ match (“free” money). And if no match, maybe dump it into value stocks w/ dividend reinvestment so you have more flexibility to move it around if ever needed/wanted. (401ks are just a boring investment vehicle, compared to RE!)
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Tom Hertel
Saint Paul, MN · Member since 2016 · 40 posts · 19 votes
9y
@Account Closed
As a fellow physician, I highly suggest you The White Coat Investor: A Doctor's Guide To Personal Finance And Investing by Jim Dahl. Honestly, that book should be required reading in all medical schools. Even though it seems that you would like to put the majority of your retirement savings in real estate, that book will save you 10's of thousands of dollars. I'm planning to take a similar, albeit slightly different, approach to my retirement. I'm planning to max out my retirement space each year with low-cost, passively-managed index mutual funds ($53k/year in a 401k, $11k/year in a Backdoor Roth IRA) and invest the rest of my annual retirements savings in buy & hold real estate. With the REI, I'm hoping to shave 5-10 years off my financial independence age. Good luck to you.
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Nick Steiner
Investor · Saint Louis, MO · Member since 2017 · 3 posts · 0 votes
9y
If there is an employee match then it is a must contribute up to the point of the match. If there isn't a match in my opinion it's 6 of 1 half dozen of another. Are the advisors at the firm that manages your 401K better at growing your wealth than another team, you, or a different investment vehicle? Know yourself and know your goals. If you know that $$ is better put to use working for you as a REI and you have a comfort level in that space, go with it. 401K is a waiting game that has little capability for manipulation of any kind but there is a excellent place for it in a portfolio. Just depends on what your goals are as well as your desired level of involvement in your own retirement.
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Account Closed
Investor · West Los Angeles, CA · Member since 2014 · 230 posts · 239 votes
9y
@Tom Hertel
We will have to agree to disagree. With 401k's your money is tied up for decades. You absolutely have no control over the market. If I turned 65 in 2008 and absolutely had to retire and depend on my income well guess what? 50% to 60% of my income would be gone. This of course is after decades of penny pinching. Now let's compare this to my business partner. In 2006-2007 he sold his entire portfolio and kept cash in the bank. In 2008 when the sky was falling and everyone was selling distressed property he purchased or wholesled everything he could get his hands on. During the Great Recession I lost at least $300k while he made millions. It comes down to control. I can't control the market but I can control the real estate I purchase.
In order for me to access my current 401k I need to leave my job. There are no exceptions except to cash out and take the penalty. I'm also aware I can access the money prior to 65 I have a self directed IRA. However once Again I can control the account but am unable to access it until I retire. Last I checked wheelchairs don't fit in Lamborghinis.
Oh and by the way I'm an accredited investor so I'm not talking out of my backside. If people want invest in 401ks go ahead I'm not here to stop them. But to say it's a sure fire way to make money is foolish. The richest people I know offer 401ks they don't participate in them.
Good luck
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Tom Hertel
Saint Paul, MN · Member since 2016 · 40 posts · 19 votes
9y
@Account Closed
That's an apples to oranges argument. You are comparing someone who sold his entire REI portfolio just before the greatest real estate crash in generations (best possible REI situation) to a hypothetical person who "needs" to retire at the bottom of a crash (worst possible stock market situation). Maybe your your parter saw all the signs before everyone else, or was he/she lucky? Additionally, stock market loses during the Great Recession are just paper losses unless you sold in the downturn, which a long term passive investor would not do (aside from tax-loss harvesting).
If you want to compare apples to apples, how about comparing your business partner to the 10-year returns of "UPRO," a 4x leveraged S&P 500 ETF, which is up 1517% since 2008 (not including dividends) and is a totally passive investment.
To be clear, I'm not trying to argue that stocks are better than real estate investing. I think they are both great, and REI likely has higher long term returns but requires a lot more work. I am though trying to argue that retirement account investing makes a lot of sense of for high W2-income earners and can be done in conjunction with one's REI side business.
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Scott C.
Rental Property Investor · Tucson, AZ · Member since 2016 · 20 posts · 5 votes
9y
If you leave a company at 55 or later, you can take 401k withdrawals without the 10% penalty. This is also true for other plans such as 403b. I am not sure if this rule applies to the TSP. People trash or praise 401ks as if they are all created equally. Some have really high expense ratios/fees and low matches and those plans probably aren't a good place to invest. Others have large matches and lower expense ratios/fees and can be an excellent place to invest. A 401k invested in stocks won't achieve the returns of many real estate investments, but it is a more passive investment that can help build wealth and can be part of a diversification strategy.
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Andrey Y.
OP
Specialist · Honolulu, HI · Member since 2014 · 1k+ posts · 1k+ votes
9y
Originally posted by @Tom Hertel:

@Account Closed
As a fellow physician, I highly suggest you The White Coat Investor: A Doctor's Guide To Personal Finance And Investing by Jim Dahl. Honestly, that book should be required reading in all medical schools. Even though it seems that you would like to put the majority of your retirement savings in real estate, that book will save you 10's of thousands of dollars. I'm planning to take a similar, albeit slightly different, approach to my retirement. I'm planning to max out my retirement space each year with low-cost, passively-managed index mutual funds ($53k/year in a 401k, $11k/year in a Backdoor Roth IRA) and invest the rest of my annual retirements savings in buy & hold real estate. With the REI, I'm hoping to shave 5-10 years off my financial independence age. Good luck to you.
Thank you very much for the suggestions! I am reading and halfway through that book as we speak :)
It sounds like you are "double-dipping" in a sense, utilizing your spouse's 401k and IRA, able to double what you invest in. I am not married, but I don't think I would put that much into the stock market / retirement accounts even if I could. Real estate has been very good to me and its easy for me to understand and manage. Plus, I do enjoy the monthly income it generates NOW, as opposed to some distance time in the future.
People say as a doctor, I don't need any additional monthly income, which is why mutual funds are better than real estate. I tend to disagree, I like having that flexibility, and the ability to call it quits early or at least reduce my hours in medicine.
Best of luck to you as well! Keep me updated on how your progress goes. I'll add you to colleagues.
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Scott KronePro Member
Investor · Northbrook, IL · Member since 2017 · 352 posts · 295 votes
9y
We prefer self directed IRA's over 401k if you have the option. Over 50% of our investors use their self directed IRA accounts.
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Tom Hertel
Saint Paul, MN · Member since 2016 · 40 posts · 19 votes
9y
@Andrey Y.
I'm actually not "double-dipping" with my 401k because I'm part of a private practice group with profit sharing, which qualifies me to make both employee and employer contributions, so the IRS 401k contribution limit of $53k/year applies. I am though funding my wife's backdoor Roth annually, so I guess that's what you are calling double-dipping.
As far as the amount invested in stocks vs real estate, I'm planning on about a 60/40 or 50/50 stock/REI split
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Tom Hertel
Saint Paul, MN · Member since 2016 · 40 posts · 19 votes
9y
@Scott Krone
The only thing to be careful with regarding a self-directed IRA, especially rolled over from a previous 401k, is that all the earnings are tax deferred. Thus it limits a high-income individual's (like @Andrey Y.) ability to contribute to a backdoor Roth IRA to a pro-rata basis rather than the full annual limit ($5,500/year) unless he's willing to convert the rollover IRA into a Roth and take the one-time tax hit.
Out of curiosity, do any of your investors with 1099 income use solo-401k's to fund their real estate ventures?
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Val M.
Colorado Springs, CO · Member since 2015 · 2 posts · 0 votes
9y
I haven't time to read comments but two points others can elaborate on if the haven't already (please correct me if I am wrong): 1) for older folks like us (my wife and I), you can continue to use a 401K after you would otherwise have to start withdrawing from an IRA 2) I found a great self-directed 401k But, who know will come of the "massive tax overhaul" proposed this week.
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Andrey Y.
OP
Specialist · Honolulu, HI · Member since 2014 · 1k+ posts · 1k+ votes
9y
Originally posted by @Tom Hertel:

@Scott Krone
The only thing to be careful with regarding a self-directed IRA, especially rolled over from a previous 401k, is that all the earnings are tax deferred. Thus it limits a high-income individual's (like @Andrey Y.) ability to contribute to a backdoor Roth IRA to a pro-rata basis rather than the full annual limit ($5,500/year) unless he's willing to convert the rollover IRA into a Roth and take the one-time tax hit.
Out of curiosity, do any of your investors with 1099 income use solo-401k's to fund their real estate ventures?
Good question. Also, the self-directed IRA I have which invests in real estate, is a Roth IRA. I was wondering if both traditional AND Roth IRAs can be used for this purpose.
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Eric C.
Laguna Niguel, CA · Member since 2012 · 122 posts · 58 votes
9y
@Account Closed : One additional point would be that you should never be 100% in equities as you get closer to retirement. Follow the "golden rule" of X % equities/ Y % bonds as you get closer to retirement. Also, if you held on (which is of course another golden rule) to your portfolio, you would have come out of the recession just fine.
If you really need money from your 401k, you can always take a loan up to 50k (of course with some caveats).
And, if you invest in the proper % of stocks/bonds based on age, then you really are guaranteed to make money in the long run. RE, not so much...
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Val M.
Colorado Springs, CO · Member since 2015 · 2 posts · 0 votes
9y
Sorry. I didn't know that this was logged in as Val. Be other thing: has anyone successfully moved money for their employers 401k to their RE company's 401K? Rick
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Dulce BeltranPro Member
Real Estate Agent · San Diego, CA · Member since 2017 · 99 posts · 52 votes
9y
Check out Podcast: How to Find Mentors believe it’s show ~10ish with Jeff Brown.
[email protected]858-333-7597
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Andrey Y.
OP
Specialist · Honolulu, HI · Member since 2014 · 1k+ posts · 1k+ votes
9y
Originally posted by @Dulce Beltran:

Check out Podcast: How to Find Mentors believe it’s show ~10ish with Jeff Brown.
I have heard all of the podcast shows 1-200.. but I am curious what made you recommend that specific episode?
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Scott KronePro Member
Investor · Northbrook, IL · Member since 2017 · 352 posts · 295 votes
9y
@Tom Hertel @Andrey Y. I don't believe we have had a 401k. As long as the IRA is self directed I would not know if it is a Roth or Traditional. Most of our investors use Equity Trust. I am sure they can better describe their programs.
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David Thompson
Investor · Austin, TX · Member since 2013 · 933 posts · 1k+ votes
9y
Hi Andrey,
Lot of good advice above. For diversification benefits, tax deferral and often times matching (free money) it makes sense to have some qualified accounts like the 401K. If this gets larger and / or you simply want more control you can do a few things. Often if you move employers, you can setup a Self Directed IRA (transfer funds) and get control back over your assets including investing in a broader array of asset classes like real estate... just understand the rules. I prefer SD-IRAs w/check writing to really reduce your fees. Also, if you start your own business, solo 401K might be the best thing going from a significantly larger contribution and not impacted by the UBIT (unrealized business income tax) on the leveraged portion of your real estate. SD-IRAs are exposed to that today. Here's an article that might be beneficial to your research once you start accumulating more assets in your qualified accounts.
https://www.biggerpockets.com/blogs/9145/63896-3-c...
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Account Closed
Investor · West Los Angeles, CA · Member since 2014 · 230 posts · 239 votes
9y
@Tom Hertel
I'm not debating the merits of equities vs real estate. The op asked if the 401k is a good idea. My opinion is no its not. You see I may not be a physician but I'm still considered a high wage earner. I'm aware of all the fabulous tax benefits. Yet the lack of control coupled with the high fees do not make it a good vehicle for creating wealth.
As for my partner no he did not get lucky. What he has is control. As for the stock you posted with the amazing returns I don't see the point. Had I invested in the stock via my 401k I still would not be able to access the money. I would not be able to go to the Tesla dealership with my stock balance printout and buy a car. Heck I would not be able to buy a happy meal with it. You see the money is locked away unable to be touched until my hair is grey and I'm on my second hip replacement. No thanks. If 401ks work for you great keep investing in them. But to proclaim them as an end all be all is a bit foolish.
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Dulce BeltranPro Member
Real Estate Agent · San Diego, CA · Member since 2017 · 99 posts · 52 votes
9y
@Andrey Y. @Jeff Brown touches on 401k's.
[email protected]858-333-7597
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Andrey Y.
OP
Specialist · Honolulu, HI · Member since 2014 · 1k+ posts · 1k+ votes
9y
Originally posted by @Account Closed:

@Tom Hertel
I'm not debating the merits of equities vs real estate. The op asked if the 401k is a good idea. My opinion is no its not. You see I may not be a physician but I'm still considered a high wage earner. I'm aware of all the fabulous tax benefits. Yet the lack of control coupled with the high fees do not make it a good vehicle for creating wealth.
As for my partner no he did not get lucky. What he has is control. As for the stock you posted with the amazing returns I don't see the point. Had I invested in the stock via my 401k I still would not be able to access the money. I would not be able to go to the Tesla dealership with my stock balance printout and buy a car. Heck I would not be able to buy a happy meal with it. You see the money is locked away unable to be touched until my hair is grey and I'm on my second hip replacement. No thanks. If 401ks work for you great keep investing in them. But to proclaim them as an end all be all is a bit foolish.
I have always thought the exact same thing, Jeanette. But enough good points have been brought up. I have done really well with real estate, but I can tell it's really cutting into my free time (the profitable stuff). Also, someone that has lived to 30 or 35, statistically will live to 88. That's an extra 26 years past 62. You will still need money past 62, even if you retire at 50. It's that simple truth I always overlooked, but when someone mentioned it, it sorta clicked.
Like I was saying, even if I contribute $18K to the TSP and $5.5K to a Roth IRA, that would still be roughly 25% of my investible assets. If I keep buying real estate, I will need to hire an assistant and bookkeeper. Fees in my 401k are 0.038% total. What are these "high fees" you speak of :)
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Account Closed
Investor · West Los Angeles, CA · Member since 2014 · 230 posts · 239 votes
9y
@Andrey Y.
https://www.cnbc.com/2017/07/17/why-high-401k-fees...
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