Six Common 401(k) Mistakes

For the vast majority of people, having a 401(k) retirement plan is essential to their future financial health. As a matter of fact, a 401(k) is so vital to a comfortable retirement that possibly the most important thing for most people who are eligible to invest in such plans is to know what mistakes they should avoid making. Listed here are six of the most common 401(k) mistakes that people make. Don't repeat them in your investment program.

  • The first (and possibly worst) mistake: investing in volatile securities (such as stocks), then selling in a panic if their prices decline. In other words, the worst mistake is for a novice to make an investment which is suitable only for sophisticated investors. Stocks can be great investments – for those who are experienced in the stock market and are equipped with the proper risk tolerance.
  • The second (and also quite expensive) mistake: not taking advantage of a 401(k) plan when one is available. Many millions of eligible Americans have not elected to participate in their employer-sponsored plans. This represents a golden opportunity to procure help in building a substantial retirement fund, an opportunity that daily slips further away from those that may need it the most. Studies have shown that the well-to-do are roughly twice as likely to participate in salary-deferral plans as the less well-to-do, which would probably benefit more.
  • The third mistake: not taking advantage of employers' contributions. Many companies match their employees' contributions up to a certain amount. For instance, if the employee contributes 3 percent of his or her salary to the 401(k) plan, the employer may match that contribution by adding an extra 1.5 percent to the employee's account. That's an immediate fifty percent return on the invested money, and it's free! Not to mention the fact that the matching funds compound right along with the employee's contributions. Yet many people don't even put the minimum amount of money into their 401(k) plans that would be matched by their employers.
  • Mistake number four: not putting away more money. Studies have found that only about one-third of active participants contributed the maximum that they could (the maximum that's tax-deferred can change yearly in line with inflation). The least that a savvy employee should contribute is the amount that will be matched by his or her employer's contribution. Again, it's senseless to turn down free money.
  • The fifth mistake: not putting enough money into the stock market. Yes, Mistake No. 1 above warned of investing in the stock market. It's volatile; it can rise and fall with alarming quickness. It can drop in value and remain down for extended periods of time. Yet, over the years, the stock market has rewarded investors more generously than fixed-income investments (bonds), cash equivalents (such as money market funds), precious metals, antiques and collectibles, and most other vehicles. To be invested exclusively in the safest assets available will only serve to guarantee that the employee will earn much lower returns than if his or her portfolio were properly allocated to include at least some riskier investment options.
  • And, mistake number six: putting too much money into the employer's stock. Actually, the real mistake here is not being fully diversified -- not having enough money in a variation of different investments. The company may be a fantastic place to work; fair, generous, and a home away from home. It may be a thriving enterprise, making huge profits; the stock may even be selling for less than it should. Regardless, it's still a bad idea – and goes against one of the first tenets of prudent investing -- to have one stock dominating the investing portfolio, even if that stock can be bought cheaply.

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