The 10 Critical 401k Mistakes
Are you confident you are avoiding the 10 CRITICAL 401k MISTAKES?
If you are not, don’t worry. You are not alone! In fact, you may be part of a very large crowd. After years of guiding executives, managers, and engineers through the complexities of their 401k, it is abundantly clear the same 401k mistakes are repeated over and over, year after year.
Many are unaware of the missed opportunity because they never knew they made a mistake. Others learn of their mistakes after it is too late to undo the damage, or capitalize on an opportunity.
The following is a brief introduction to each of the 10 mistakes in THE 10 CRITICAL 401k MISTAKES series. To learn more about a specific mistake, just click the link provided. Each link will take you to a separate stand-alone article.
What will you do with what you are about to learn? Will you avoid these mistakes? Will you capitalize on the opportunities?
Read on!
401k Critical Mistake #1: Not Considering Hyper-Funding your 401k Using In-Plan Roth Conversions
Ask yourself two questions:
- Are you making after-tax contributions to your 401k each year above the IRS pre-tax contribution limit?
- Are you automatically converting these contributions to your Roth 401k plan?
If you answered NO to either question, you may be making 401k Critical Mistake #1 in THE 10 CRITICAL MISTAKES series.
There are two consequences to making 401k Critical Mistake #1.
The first consequence is to miss the opportunity to stuff far more into your 401k each year by limiting your contributions to the annual IRS pre-tax contribution limit (in 2024 the limit is $30,500 for those 50 or older and $23,000 for those under 50).
Many are unaware that the tax code allows additional after-tax contributions once the annual IRS pre-tax contribution limit has been met.
The second consequence is having to pay income tax someday on a portion of your 401k that otherwise could have grown and potentially become tax-free upon withdrawal.
Many 401k plans today offer a Roth 401k option as well as 401k In-Plan Roth conversions. For plans that do, 401k after-tax contributions can be converted to the Roth balance in your 401k while you are still working. This means the earnings on your after-tax contributions can potentially be tax-free rather than being taxable upon withdrawal.
Move quickly. The sooner you convert future 401k after-tax contributions to your Roth 401k, the sooner your 401k after-tax contributions may grow tax-fee!
401k Critical Mistake #2: Not Considering Transferring Existing 401k After-Tax Contributions to a Roth IRA
Ask yourself this:
Have you already made after-tax contributions to your 401k?
If your answer is yes, there’s a strong chance you are making 401k Critical Mistake #1 in THE 10 CRITICAL 401k MISTAKES series. 401k Critical Mistake #2 is failing to consider a direct transfer of the 401k after-tax contributions you have already made to a Roth IRA.
The consequence of making 401k Critical Mistake #2 is having to pay income tax someday on a portion of your 401k that otherwise could have grown and potentially become completely tax-free upon withdrawal. When you transfer after-tax contributions to a Roth IRA, all growth now takes place inside the Roth IRA. This means all growth in the Roth IRA may potentially be withdrawn tax-free, assuming IRS rules are followed for tax-free distributions from Roth IRA’s.
Move quickly. The sooner you transfer your 401k after-tax contributions to an outside Roth IRA, the sooner your funds may grow tax-fee!
401k Critical Mistake #3: Have Employer Stock in 401k? Do This Before Rollover to IRA
Ask yourself three questions:
- Do you own stock of the company you work for inside your 401k?
- Is your 401kemployer stock highly appreciated?
- At retirement, or when you leave your company, do you plan to rollover your 401k employer stock to an IRA?
If your answer to all three questions is yes, there’s a strong chance you will make 401k Critical Mistake #3 in THE 10 CRITICAL 401k MISTAKES series.
401k Critical Mistake #3 is rolling over your 401k to an IRA before you have evaluated if the highly appreciated employer stock in your 401k is eligible for special tax treatment that could potentially save you a lot of money in taxes.
If you are a candidate for the special tax treatment, and you roll over your 401k to an IRA, you will likely forfeit the ability to receive this special tax treatment that could allow a portion of your 401k employer stock to be taxed at the lower capital gains tax rate rather than the higher ordinary income tax rate.
401k Critical Mistake #4: Have Employer Stock in 401k? Do this First Before Selling Shares
Ask yourself three questions:
- Do you own stock of the company you work for inside your 401k?
- Is your 401k employer stock highly appreciated?
- Are you contemplating selling your 401k employer stock?
If your answer to all three questions is yes, there’s a strong chance you might make 401k Critical Mistake #4 in THE 10 CRITICAL 401k MISTAKES series.
401k Critical Mistake #4 is selling your highly appreciated 401k employer stock before you have evaluated if the employer stock is eligible for special tax treatment that could potentially save you a lot of money in taxes.
If you are a candidate for the special tax treatment, and you sell your 401k employer stock, you will likely forfeit the ability to receive this special tax treatment that could allow a portion of your 401k employer stock to be taxed at the lower capital gains tax rate rather than the higher ordinary income tax rate.
401k Critical Mistake #5: Have Employer Stock in 401k? Do This First Before Withdrawing Funds
Ask yourself three questions:
- Do you own stock of the company you work for inside your 401k?
- Is the employer stock in your 401k highly appreciated?
- Do you plan to withdraw funds from your 401k?
If your answer to all three questions is YES, there’s a strong chance you’ll make 401k Critical Mistake #5 in THE 10 CRITICAL 401k MISTAKES series.
401k Critical Mistake #5 is withdrawing funds from your 401k before you have evaluated if the highly appreciated employer stock in your 401k is eligible for special tax treatment that could potentially save you a lot of money in taxes.
If you are a candidate for the special tax treatment, and you withdraw funds from your 401k, you might forfeit the ability to receive this special tax treatment that could allow a portion of your 401k employer stock to be taxed at the lower capital gains tax rate rather than the higher ordinary income tax rate.
401k Critical Mistake #6: Have Employer Stock in 401k? Do This If Stock Sharply Declines
Ask yourself two questions:
- Do you own stock of the company you work for inside your 401k?
- Has your 401k employer stock sharply declined in price?
If your answer to both questions is yes, there’s a strong chance you could make 401k Critical Mistake #6 in THE 10 CRITICAL 401k MISTAKES series.
After a sharp decline in the price of the employer stock inside your 401k, 401k Critical Mistake #6 is failing to consider selling the employer stock within the plan, then repurchasing it right away, to potentially lower the cost basis.
The lower the cost basis of your 401k employer stock, the more likely the stock will become eligible for special tax treatment that could potentially save you a lot of money in taxes.
If you are a candidate for the special tax treatment, and you don’t consider selling your 401k employer stock after a sharp decline, you might forfeit the ability to receive this special tax treatment that could allow a portion of your 401k employer stock to be taxed at the lower capital gains tax rate rather than the higher ordinary income tax rate.
401k Critical Mistake #7: Not Considering Super-Funding Your Health Savings Account
Ask yourself two questions:
- Are you eligible to contribute to a Health Savings Account?
- Did you fail to contribute the maximum allowable amount each year?
If your answer to both questions is yes, you might be making 401k Critical Mistake #7 in THE 10 CRITICAL 401k MISTAKES series.
401k Critical Mistake #7 is failing to consider contributing the maximum allowable amount every year to your Health Savings Account (HSA).
This is frequently a lost opportunity as HSAs offer investors an additional retirement savings vehicle, additional tax deductions, and the potential for tax-free growth.
401k Critical Mistake #8: 5 Mistakes to Avoid When Naming Your 401k Beneficiaries
Ask yourself this:
When you named the people who will receive your 401k when you die, did you use the exact beneficiary designation language provided to you by the attorney who created your Will?
If your answer is no, or if you aren’t sure, there’s a strong chance you’re making 401k Critical Mistake #8 in THE 10 CRITICAL 401k MISTAKES series.
If you don’t use the 401k beneficiary designation language provided by the attorney who created your Will, and instead craft the beneficiary designation yourself, it’s quite possible that, after you die, your 401k will pass in a manner that conflicts with, or even contradicts, the estate plan you created with your attorney. In other words, in the event of your death, your 401k might not go where you intended it to go.
401k Critical Mistake #9: Don’t Make This Mistake or You Will Miss Your 401k Match
Ask yourself this:
Will your 401k contributions reach the maximum annual IRS limit before your last paycheck of the year?
If your answer is yes, or if you aren’t sure, there’s a strong chance you’re going to make 401k Critical Mistake #9 in THE 10 CRITICAL 401k MISTAKES series. The consequence of making 401k Critical Mistake #9 is missing out on employer 401k matching contributions you were otherwise entitled to receive.
401k Critical Mistake #10: Do This First Before Rolling Over 401k to an IRA Before 59.5
Ask yourself two questions:
- Are you planning to retire or leave your company after reaching age 55?
- Will you make withdrawals from your 401k before age 59 ½?
If your answer to both questions is yes, there’s a chance you’ll make Critical Mistake #10 in THE 10 CRITICAL 401k MISTAKES series.
Because of the multitude of investment and taxation advantages of IRA’s, it’s very common to roll over your 401k to an IRA after retirement or after your leave your company.
401k Critical Mistake #10 can happen when you roll over your 401k to an IRA too early and unnecessarily trigger the potential for a 10% IRS penalty on IRA withdrawals made before age 59 ½.
Take Action To Avoid These Critical 401k Mistakes
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The 401k Critical Mistakes Series by Title
- 401k Critical Mistake #1: Not Considering Hyper-Funding your 401k Using In-Plan Roth Conversions
- 401k Critical Mistake #2: Not Considering Transferring Existing 401k After-Tax Contributions to a Roth IRA
- 401k Critical Mistake #3: Have Employer Stock in 401k? Do This Before Rollover to IRA
- 401k Critical Mistake #4: Have Employer Stock in 401k? Do this First Before Selling Shares
- 401k Critical Mistake #5: Have Employer Stock in 401k? Do This Before Withdrawing Funds
- 401k Critical Mistake #6: Have Employer Stock in 401k? Do This if Stock Sharply Declines
- 401k Critical Mistake #7: Not Considering Super-Funding Your Health Savings Account
- 401k Critical Mistake #8: 5 Mistakes to Avoid When Naming Your 401k Beneficiaries
- 401k Critical Mistake #9: Don’t Make This Mistake or You Will Miss Your 401k Match
- 401k Critical Mistake #10: Do This First Before Rolling Over 401k to an IRA Before 59.5
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- THE 10 CRITICAL 401K MISTAKES
- THE IRA CRITICAL MISTAKES SERIES
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