Ted's Table

Technical Terms Conduit IRA Defined-benefit pension plan Mutual fund

TB: I congratulate you on the fact that you have made savings such a high priority. You obviously could do many other things than contribute 15 percent of your pay to the 401(k). What you are doing takes a lot of discipline. Keep it up because you are not likely to regret your decision as your nest egg builds over the years.

It is generally best to eliminate debt as soon as possible. Having this burden behind you in 10 years instead of 20 years is worth doing if you can afford the additional $150 per month without reducing your savings. Another possibility that may give you some greater flexibility is to go with a 20-year loan but to pay the larger amount each month if the additional payment can be applied to reduce the loan principal. This approach will enable you to achieve the same result without being locked into the larger monthly payment.

TB: The major advantage of buying stocks and holding them is that it is less expensive than buying mutual funds because your only cost is incurred when you buy the stocks. You must pay the management fee each year when you buy mutual funds. This annual fee can be as low as 0.20 percent for unmanaged index funds to as high as 1.8 percent for managed funds. Buying stocks can be much less expensive over a 25-year to 30-year period, but that is only part of the story.

You indicate that you are just starting to contribute to a 401(k). Unless you have transferred money from another plan into your new 401(k), you will have small amounts to invest until you contribute for several years. You probably will have to let the money accumulate in a money market fund until you have enough to buy stock. You will earn a low rate of return while the money is sitting in the money market. When you use the money you have accumulated to buy the stock of a particular company, you have to start building up money in the money market again until you can make another purchase. It will take you a few years to build a diversified portfolio, which means the potential of a substantial loss will be much greater during the early years when you only own a few stocks.

You should also consider how successful you are likely to be at picking your own stocks. Fund managers have a lot of resources available and they spend all their time managing money. You will have a difficult time outperforming the professional fund managers. Sticking with funds should be your best alternative unless you transferred money from a prior plan and are willing to put considerable effort into managing your own money.

Related Reading Is Day Trading Your 401(k) a Good Idea? Leaving Your Job? Keep Your Retirement Funds Safe with a 401(k)-IRA Rollover

TB: Money that is distributed from a tax-qualified retirement plan loses its distinctive nature when it is placed into a conduit IRA. As a result, it may subsequently be transferred into another employer's qualified retirement plan that accepts rollovers regardless of the type of plan from which the money was distributed. The requirement to preserve certain benefit features, such as a qualified joint and survivor annuity, also is eliminated when a benefit distribution from a defined-benefit plan passes through a conduit IRA. You should be able to transfer the entire amount that you have deposited into your conduit IRA to another employer-sponsored plan if you want to do so and if the new employer's plan accepts rollovers. The primary concern for the new employer is that the distribution was from a tax-qualified plan or plans.

Ted Benna, creator of the first 401(k) retirement savings plan, will answer your most intriguing questions every week. With over 30 years of experience as an employee benefits consultant, Ted is a nationally recognized expert on benefits issues. He has authored two books, Helping Employees Achieve Retirement Income Security and Escaping the Coming Retirement Crisis, and is President of the 401(k) Association. Ted is a frequent speaker at meetings of 401(k) plan sponsors and participants. His articles and comments have appeared in numerous publications, including The New York Times and The Wall Street Journal.

The information provided here is intended to help you understand the general issue and does not constitute any tax, investment or legal advice. Consult your financial, tax or legal advisor regarding your own unique situation and your company's benefits representative for rules specific to your plan.

Ted's Table

Technical Terms Conduit IRA Defined-benefit pension plan Mutual fund

TB: I congratulate you on the fact that you have made savings such a high priority. You obviously could do many other things than contribute 15 percent of your pay to the 401(k). What you are doing takes a lot of discipline. Keep it up because you are not likely to regret your decision as your nest egg builds over the years.

It is generally best to eliminate debt as soon as possible. Having this burden behind you in 10 years instead of 20 years is worth doing if you can afford the additional $150 per month without reducing your savings. Another possibility that may give you some greater flexibility is to go with a 20-year loan but to pay the larger amount each month if the additional payment can be applied to reduce the loan principal. This approach will enable you to achieve the same result without being locked into the larger monthly payment.

TB: The major advantage of buying stocks and holding them is that it is less expensive than buying mutual funds because your only cost is incurred when you buy the stocks. You must pay the management fee each year when you buy mutual funds. This annual fee can be as low as 0.20 percent for unmanaged index funds to as high as 1.8 percent for managed funds. Buying stocks can be much less expensive over a 25-year to 30-year period, but that is only part of the story.

You indicate that you are just starting to contribute to a 401(k). Unless you have transferred money from another plan into your new 401(k), you will have small amounts to invest until you contribute for several years. You probably will have to let the money accumulate in a money market fund until you have enough to buy stock. You will earn a low rate of return while the money is sitting in the money market. When you use the money you have accumulated to buy the stock of a particular company, you have to start building up money in the money market again until you can make another purchase. It will take you a few years to build a diversified portfolio, which means the potential of a substantial loss will be much greater during the early years when you only own a few stocks.

You should also consider how successful you are likely to be at picking your own stocks. Fund managers have a lot of resources available and they spend all their time managing money. You will have a difficult time outperforming the professional fund managers. Sticking with funds should be your best alternative unless you transferred money from a prior plan and are willing to put considerable effort into managing your own money.

Related Reading Is Day Trading Your 401(k) a Good Idea? Leaving Your Job? Keep Your Retirement Funds Safe with a 401(k)-IRA Rollover

TB: Money that is distributed from a tax-qualified retirement plan loses its distinctive nature when it is placed into a conduit IRA. As a result, it may subsequently be transferred into another employer's qualified retirement plan that accepts rollovers regardless of the type of plan from which the money was distributed. The requirement to preserve certain benefit features, such as a qualified joint and survivor annuity, also is eliminated when a benefit distribution from a defined-benefit plan passes through a conduit IRA. You should be able to transfer the entire amount that you have deposited into your conduit IRA to another employer-sponsored plan if you want to do so and if the new employer's plan accepts rollovers. The primary concern for the new employer is that the distribution was from a tax-qualified plan or plans.

Ted Benna, creator of the first 401(k) retirement savings plan, will answer your most intriguing questions every week. With over 30 years of experience as an employee benefits consultant, Ted is a nationally recognized expert on benefits issues. He has authored two books, Helping Employees Achieve Retirement Income Security and Escaping the Coming Retirement Crisis, and is President of the 401(k) Association. Ted is a frequent speaker at meetings of 401(k) plan sponsors and participants. His articles and comments have appeared in numerous publications, including The New York Times and The Wall Street Journal.

The information provided here is intended to help you understand the general issue and does not constitute any tax, investment or legal advice. Consult your financial, tax or legal advisor regarding your own unique situation and your company's benefits representative for rules specific to your plan.