I’ll be totally honest. A couple of years ago, before I started this blog and my personal finance journey, I had no clue what a 401k was. I knew that it had something to do with finance. I probably could have ventured a guess that it related to retirement. But other than that, I just really didn’t know. I definitely didn’t know that I needed to max out my 401k…
And that’s a scary thought
Because I was, and am, just a regular, working doctor. But what does that mean?
It means that:
- I went to 4 years of undergraduate school
- Followed by 4 years of medical school
- And then functioned/was functioning throughout my residency/fellowship training at a high level
This is what all regular, working doctors have accomplished at minimum. So, we are pretty “with it” people.
But I still had no clue what a 401k was!!!!!
So, I’m here to tell you that:
(A) There are people/doctors out there that still have no clue what a 401k is, and
(B) If you are one of those people, that’s totally ok. I was one of those people. And you are not alone.
For a refresher or quick intro, this explains basically all you need to know about 401k’s and other investment accounts.
But what if I told you there was something even scarier
I know…I know…things are getting real spooky now. But stick with me…
The scarier thing to me is that I meet many doctors now who know what a 401k is but do not invest in it. To me, that is downright terrifying!
There’s a bunch of reasons for this including:
- Not really understanding what a 401k does despite knowing that it exists
- Being scared of investing for fear of losing money
- Thinking other investment accounts are better
- Being steered by a “financial advisor” against investing in their 401k
- Investing all in real estate or other alternative investments instead of in a 401k
These reasons and just about every other one are all bunk
- Scared to invest? This post is for you.
- Your “financial advisor” tells you not to invest in your 401k? Hmmm…my best guess is that they are less of an “advisor” and more of a commissioned salesperson.
- Thinking of keeping all of your investments in Bitcoin? I recommend checking out this post first.
But my goal with this post is not to try and disprove every argument against investing in a 401k. Because these excuses can be endless.
Instead, my goal is to share with you 5 simple, wealth-building reasons why you need to invest in your 401k
But before I start, a quick disclaimer. I am using the term 401k in this post to represent really any primary employer-based investment account. So if your employer has a 403b like mine instead of a 401k, same arguments apply.
Don’t have an employer? You should set up a solo 401k or other similar investment account. Same arguments apply.
Ok, here we go…
1. Tax Deferred Growth
Simple rules to build wealth:
- Make money
- Save money
- Invest money
- Minimize money parasites
And the biggest money parasites are taxes and fees. Minimizing fees is one of the big reasons that investing passively in broadly diversified index funds is the way to go.
That strategy also happens to minimizes taxes for the most part regardless of what account they are investing in. But, taxes will still take a big chunk of your money if you invest in a taxable account.
See, with a taxable account (like a regular account that you open up with a brokerage like Fidelity or Vanguard), your money is taxed when you put it in the account. And then it gets taxed again when you take it out of the account. So, double tax.
With your 401k, the money is taxed when you take it out of the account. But not when you put it in. So you get taxed once. Still stinks. But better than twice. Especially if your tax bracket is lower when you plan to withdraw the money (likely in retirement) than it is now in your peak earning years.
But even if that is not the case, it’s still worth it. I plan to remain in a high income tax bracket when I retire. I still fully fund my 403b.
I hope this is relatively self explanatory.
Don’t put all your eggs in one basket. Even if it is a good basket.
For example, I love real estate investing. A huge part of my net worth is in real estate as called for in my written financial plan. I encourage and teach others to invest in cash flowing real estate assets.
But I would never recommend that you should forgo your 401k to invest in real estate. I think that is bad advice. Investing in cash flowing real estate carries minimal risk. Similar to investing in the stock market via broadly diversified low cost index funds with yearly rebalancing. But the risk is decidedly not 0%.
So, create an asset allocation that allows you to reach your goals without unnecessary risk and follow it. That way, if something happens to one asset and it goes down, your others are there to keep you afloat until the other ones recover.
3. Asset Protection
The Employee Retirement Income Security Act of 1974 (or ERISA) protects assets in your 401k from creditors. So, your investments in there are safe if you have a (very unlikely) above policy limits malpractice or other judgement against you.
This is not the case with taxable investment accounts or even IRAs, whether Roth or traditional.
Most high new worth doctors that I talk to are very worried about asset protection for themselves and their heirs. This is a pretty big protection that would be silly not to take advantage of.
4. Behavioral Simplicity
Take Dr. YOLO
To his credit, he came up with a plan to invest $1,500 each month. But, his investment advisor tells him not to be a sucker.
“Don’t invest in your 401k. Invest with me and my proprietary algorithm. I’ll get your above-market returns,” she says.
Dr. YOLO can’t resist so he decides to fork over $1,500 each month to his advisor towards his retirement. But, each month it seems like there is a new fancy gadget that comes out that he can’t resist. So, maybe that comes out of his $1,500 retirement allocation.
And then, his car lease is up. And he only needs to budget $500 more per month to his lease to get the newest model with a self parking feature (even though his lives in the suburbs and parks in his driveway).
All of a sudden, those month retirement contributions are getting smaller.
No big deal right? Well, let’s see…What’s the difference between $1,000 and $1,500 invested each month for 30 years, even if his “advisor” can get 5% after tax returns?
Now take Dr. FIRE
Dr. FIRE also budgeted to invest $1,500 each month. But she decided to do it in her 401k with her employer. (Don’t worry, because she is Dr. FIRE, she invests way more than this towards her retirement, this is just for the sake of example).
Because she’s investing in her 401k, her money gets taken out take deferred from her monthly paycheck before she even sees it.
So she never dips into this money to satisfy unnecessary consumer
Having money automatically deducted in a tax deferred manner to save, invest, and grow in a compounded fashion has huge behavioral advantages. Remember, the biggest enemy of our wealth is looking at us in the mirror. We have to protect ourselves from ourselves!
5. Employer Match
I put this last on purpose.
And the reason is that I can already hear the argument that people are making, “My employer doesn’t offer a match, so I shouldn’t invest in the 401k.”
Regardless, the previous advantages listed above supersede this one. You should still invest in your 401k even without a match.
But, if you do have an employer match, this is a HUGE advantage.
This is free money.
Actually, it’s like money that is included in your contract that you are leaving on the table and giving back to your employer.
Actually, it’s even better than money because it’s tax-deferred money that you can invest and grow, taking advantage of compound interest!
Phew…I’m out of breath…please, never miss out on an employer match…for me…(I need to do more cardio…)
The final metaphor
Your 401k (or its equivalent) is a tool. And it’s a good tool at doing the job it’s supposed to do. Which is to help you save and invest for your retirement. So use it to do its job. Yes, you will need other tools to build your whole financial house. But that doesn’t mean you should ignore this one.
What do you think? Do you invest in your 401k? Do you think everyone should? Is there any reason not to invest in it? Let me know in the comments below!