The Great Retirement Plan Rip-Off

By David Brochu

What I am about to share could cost me my membership in the Financial Planning Association, if I hadn’t already given it up: For decades, guys like me (financial advisers) have misled you.

What I mean is that we have been taught something that, as it turns out, simply isn’t true. And that is that you should always maximize the amount of money you put in your 401(k) or similar retirement plan. We were wrong.

Predicting the future can be tricky at best; predicting future tax policy and the direction of the economy and financial markets is basically hopeless. But that is what we did, and oh boy, were we wrong.

Back a hundred years or so ago, retirement as we now know it didn’t really exist. You either inherited money or you worked until you became rich or dropped dead, whichever came first. Then came the Great Depression and everything changed.

Civilian unemployment topped out around 30 percent during the Depression. Further, some 50 percent of the nation lived in poverty, with widows and orphans constituting the overwhelming majority. In 1935, Franklin Delano Roosevelt proposed and Congress passed the Social Security Act of 1935. One of the major components of the Act was the Social Security Old-Age Benefit. Social Security retirement benefits, as they are called, were designed to provide a modest safety net for Americans in their old age.

Social Security worked so well that by the mid- to late-1950s, employers needed to find a way to hang on to their best employees. Amongst the many benefits employers began offering to key employees was the pension plan.

Pension plans are called defined benefit plans. Few of us have them anymore and the reason becomes evident as we consider how they work. A pension plan promises to pay a specific amount of money at a specific date and time in the future, based on the attainment of certain targets. As an example, a worker might be promised 70% of their salary at age 65 if they have been with the company for 30 years, with some lesser amount for fewer years of service. The key to this example is the promise. Promised by whom?

Employers, state and municipal governments, and even the federal government for a time, adopted the pension plan. The promise made by the employer meant that money had to be set aside to pay for the benefits. Corporate America, increasingly concerned with quarterly earnings statements, hated the idea that charges had to be taken today for expenses to be paid tomorrow. Somewhere around the mid-70s, the 401(k) plan was born.

401(k) refers to a section of the Internal Revenue Code. Section 401 governs a number of different defined contribution plans; k is the paragraph of the one we are concerned with. Note the change in nomenclature: Defined Contribution versus Defined Benefit. 401(k)s and similar plans are defined contribution plans. That means you know only what has been put in; what comes out is based on a host of factors largely out of your control. The rate of return, plan expenses, employer contributions and prevailing tax policy are but a few of the variables that affect the 401(k) plan and others like it. Oh, and by contributions, we mean your contributions, not your employer’s.

How did corporate America, along with the federal government (the Feds gave up the pension plan around the same time), get American workers to accept such ridiculous restructuring of their benefits? Members of the stronger unions across the country didn’t. Unions, having enough collective bargaining power, have been able, in many cases, to resist the move away from the pension plan to the 401(k) plan. The rest of us got this sales pitch:

“Your new retirement plan is called a 401(k) plan. It will take the place of your previous pension. The accrued benefit in your pension plan can be rolled over into the new 401(k) plan, taken as a lump sum distribution, or left where it is, providing you are currently vested in the pension. Those not currently vested (anyone with less than ten years of service) are not entitled to anything from the old plan.

“Your new 401(k) plan provides you unprecedented control over your retirement benefits. You decide how much to contribute, how to invest your money and, if you decide to seek employment elsewhere, you can take your vested benefits with you. You are always vested in your contributions and, if your employer contributes to the plan, that money could be yours as well. When you retire, you can begin withdrawals when you want, timing them to ensure you take advantage of the lower tax rates you will be paying in retirement.

“Everyone got that? You pay for a benefit you didn’t have to pay for before. You make investment and planning decisions you are totally unprepared to make. And your employer will kick in a little if they can.”

In defense of all the terrific employers out there, few had any real choice. Government regulations for pension plans were inscrutable at best. Worse yet, violations of those rules, even by accident, could be a criminal act. Combined with ever-increasing life spans, pension plans became, for the most part, untenable. That left employers only one option: the defined contribution plan. And my industry was happy to comply.

Considering the insanity of asking employees to make up the contributions their employer had been making while also becoming expert actuaries and investment professionals, it should have been clear to all of us in the financial advisory profession that this whole idea was ludicrous. Permit me a little defense along with my mea culpa.

Think of something that comes easily to you. It might be knitting, skiing or yak herdsmanship. Now imagine trying to understand how hard it is for other people to do. For example, if you’re a financial person, finance is simple. Forgive us a bit if we didn’t fully understand the burden being heaped upon you.

Considering all of the disadvantages most employees faced, it should come as no surprise that most people are lucky to have the money they contributed to the plan, let alone any investment gain. Your 401(k) plan is likely woefully underfunded because you have changed jobs, spent the money, made bad investment decisions, contributed too little, lost your employer match, were ripped off by high fees and, to top it all off, will almost certainly have to pay higher taxes when you take the money out.

Yeah, I know, real cheery. But, you know, the first step to solving a problem and all that.

I helped get you into this mess and I have a few ideas about how I can get you out of it. All is not lost. In fact, like most things, there’s opportunity amongst the rubble. Tune in next time when we’ll discuss fixing your 401(k) plan.

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August 7, 2013   Do You Know Your Small Business Vitals?     <![if !vml]><![endif]>On a doctor’s visit, the first thing the nurse  does is take your vitals: your temperature, blood pressure, pulse rate, and respiration rate. These basic measurements are the first place doctors look to see if something is wrong with our health.   Knowing your vital signs, and especially when they are out of whack, is good for your health. In the same way, knowing your business’s vital signs, and especially when they are out of whack, is good for the financial health of your business.        Vital Measures  <![if !vml]><![endif]>    If you’ve been in business a while, you might already know the “vitals” you like to track. Here are some common ones for a small or new business: Checking account balance(s) Cash flow requirements for bills and payroll  Revenue for the month and year-to-date Sales by customer so you can see the top five to ten largest customers As time goes on and your business grows, you may want to add some of the following: Revenue for the month and year-to-date compared to last year Net income for the month and year-to-date compared to last year Days Sales Outstanding which is a measure of how long it takes to collect on an invoice from a client Revenue by service or product line in a pie chart What about these important metrics? Best and worst selling products Tracking promotion codes and coupon results Work in progress or backlog Number of days to fill an order These are just a handful of the many options there are when it comes to measuring the results of your business, and it would be difficult for us to list all of them here. The point is to decide proactively what you would like to track on a monthly basis. Then you can set up the process it takes to get those numbers delivered to you in the format you prefer.   Once you decide on the numbers you need to run your business, you’ll be able to take your “vitals” whenever you want. You can take this to the next level with one more idea:exception reporting.   Being Exceptional   <![if !vml]><![endif]>   It’s great to glance at your numbers periodically, but there can be a lot of data to wade through. How about getting a report that tells you only when the numbers go out of range? This is called exception reporting, and requires that you set ranges for each measure you want to follow. If the measure stays within range, you do not have to be alerted. However, if it falls out of range, then you can get a report to tell you what’s going on so you can take the right business action.   Exception reporting is not all that common in small business, but it should be. It can save a busy owner a lot of time.     A Clean Bill of Health   <![if !vml]><![endif]>   By determining the vitals you want to watch for your business and putting a process in place to monitor that information, you will be helping your business stay healthy. If we can help, please reach out and let us know. The doctor is IN. Issue: 27       “Rhonda has   insight and creativity to customize solutions for   any business…”   Save  25% On Intuit Checks, Forms & Supplies! Order or call 1-800- 433-8810 and mention Offer Code PAPWBKC   Limit one per customer. This coupon cannot be combined with other offers. Expires: 12/31/2013      I am so honored to visit your inbox on a regular basis, and hope that you find the information I share useful and pragmatic. We promise never to disclose or sell our Constant Contact subscribers list.     Rhonda Rosand, CPA  Advanced Certified QuickBooks® ProAdvisor  New Business Directions Phone: (603) 356-2914 | Fax: (603) 356-2915 QuickBooks® and QuickBooks ProAdvisor® are registered trademarks and/or registered service marks of Intuit, Inc.®, used with permission.