Common retirement plan mistakes

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The collapse of Enron, Global Crossing Ltd., K-Mart Corp. and other high-profile companies has dramatically highlighted the risk of investing too heavily in company stock in 401(k) or other employee-funded retirement plans, such as the Thrift Savings Plan (TSP).

But workers often make other mistakes in such plans. Following are other common mistakes cited by Dennis Filangeri, a certified financial planner based in San Diego.

Failing to participate

According to the Profit Sharing/401(k) Council of America (, 20 percent to 25 percent of eligible workers don't participate in available 401(k) plans. This means they are missing out on one of the most tax-effective ways to save for retirement, and they could end up depending mostly on Social Security benefits when they retire.

Failure to participate is especially costly because more than 70 percent of employers match part of each employee's contribution, according to the council. Consequently, failure to join essentially means passing up free money.

Failing to save while waiting

Most 401(k) plans don't allow you to join the plan until you've worked for the employer for a year and many require you to be at least age 21. If that's your situation, set aside money each month in a savings account. When you do join the plan, you can use the extra savings to supplement your cash flow so that you can maximize your regular 401(k) contribution over the next year.

Failing to contribute the maximum

Not every employee can afford to contribute the maximum allowed by the plan, but many employees don't contribute the most they can afford to contribute.

The average 401(k) participant contributes less than 7 percent of pre-tax salary, according to the Employee Benefit Research Institute (, although plans usually allow higher limits (TSP allows 10 percent) as long as the amount does not exceed $11,000 in 2002. At the very least, contribute enough to maximize the employer's matching contributions — 5 percent for TSP — but put in more if you can.

Not adjusting automatic enrollment

An increasing number of 401(k) plans automatically enroll workers, unless they opt out. This increases the participation rate, which is good. However, participants often fail to adjust the enrollment's initial default choices. Consequently, they probably aren't contributing as much as they can afford to, and the investment defaults are likely too conservative. Take the time to make adjustments.

Poor diversification

The average 401(k) plan offers about 10 investment choices — too few, critics say. However, nearly half of all 401(k) participants invest in only one or two of the mutual funds offered anyway, according to Hewitt Associates.

Filangeri says that's poor diversification, particularly if those funds are similar in style, such as two large-cap stock funds. And remember, if you hold company stock, it's important to diversify away from your company as well as the industry it represents.

Failing to balance with outside investments

For most workers, a 401(k) or similar employer-sponsored retirement account is their main investment aside from their house. However, you may have other significant investments, such as your spouse's retirement account, individual retirement accounts, real estate, college savings and so on. So when choosing retirement plan investments, make investment choices that take into account the outside investments as well. Your overall portfolio needs to be properly balanced for risk and return.

Heavy on company stock

After all the publicity about Enron and Global Crossing, this seems like obvious advice. Yet many workers have been quoted as saying they will continue to load up heavily with their particular employer's stock because they're confident their employer's stock will continue to do well. Certified financial planners generally recommend that workers keep no more than 20 percent of company stock in their retirement account.

Borrowing from the plan

It may be financially attractive to borrow from your 401(k), but avoid it unless absolutely necessary. You're taking money out of the account that otherwise would grow tax-deferred. And if you fail to pay back the money, you could face income taxes and penalties. Instead, build an outside emergency fund you can draw on.

Cashing out plan account

Most workers under age 35 cash out their 401(k) account's accumulated value when they switch jobs, according to the 401(k) Association ( That money no longer grows tax-deferred, but the withdrawal faces taxes and usually a 10 percent early withdrawal penalty.

Zall, Bureaucratus columnist and a retired federal employee, is a freelance writer based in Silver Spring, Md. He specializes in taxes, investing, business and government workplace issues. He is a certified internal auditor and a registered investment adviser. He can be reached at [email protected]


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