Investing in your 401k is very important and cannot be taken lightly, but what if I told you there were options to invest in alternative options to your 401k? Let’s unveil three 401k alternatives that you never heard of.
401k Alternatives: Three Retirement Plans You Never Heard Of
This is a guest post by John Medwin. John Medwin has been a designer of specialty retirement plans since 2006. He’s very passionate about 401k alternatives and saving on retirement fees.
All my life I’ve heard “there is nothing better than a 401K”. That simply is no longer true anymore. Not by a long shot. Just so you don’t think I’m the only one, just Google sometime “the 401K has failed” and you’ll see I’m in good company. So this is how I see it.
Also, if you are like me and monitor your personal financial ratios through Personal Capital, you will see that I’m always finding a way to increase my net worth and cash flow.
With your 401(k), you should have an understanding of how much in fees your paying. Avoid hidden fees and use one of these best 401(k) fee calculators.
Here are the exact steps I took to save money in my Alerus 401(k).
The History of the 401K and Taxes
The 401K, and all related “qualified plans” such as the IRA, 403B, 457… all rolled out in 1980. At the time, they made perfect sense. Back then, a person who made $70,000/yr was in a 55% tax margin. Pushing off the taxes and the tax calculation, was logical back then. But that is no longer the case today. And in order to see why that is so, we need to understand the history of our income tax.
The first income tax in history came at the hands of Abraham Lincoln. He imposed a 3% income tax on those making over $800/yr to pay for the civil war.
Once the war was paid off, Congress did away with the tax. Back then, Congress was fiscally responsible and used taxes and tax increases to pay off the national debt.
Income taxes as we know it, came out in 1913 and were minimal. Who could complain about paying a few points? Not many did until 4 years later when WWI arrived and taxes shot up to near 70% to pay off the war debt. Then the rate came down, but never as low as it was before.
The highest rate in history was over 92% thanks to WWII. Then it took a long time for taxes to drop to where we’ve been the last few years. But in 1980, when the 401K began, taxes were still high.
Pushing off taxes with the hope that you’d be in a lower tax margin, was a good strategy in that day. Can there be 401k alternatives that are feasible?
The 401K Today
Today our taxes are historically very low. Looking down the road, you can expect to see substantial tax increases. In fact, David Walker, the Comptroller General under the Bush & Clinton administrations, has been warning that taxes will have to double in the future, due to a 4 letter word – MATH. It’s only a matter of time until Walker’s words come true.
But the problem with the 401K and related plans are not just about taxes. There are 2 other bigger fish to fry: risk and fees. Let’s talk about fees first.
I find it amazing that we know the general cost of almost everything in our lives – except when it comes to possibly the biggest expense in our life – brokerage fees. Most are unaware that they are even paying fees or know their true cost. I’ve seen those paying $30,00/yr in fees and they thought they had none.
Tony Robbins says that 2/3 of Americans think they don’t pay fees. And rightly so, look all you want and you may never find them on your statements. And yet, pay only 1% too much in fees and it can rob you of 28% of your retirement according to the Dept of Labor.
Here is six effective ways how I saved over $25,000 in retirement fees. Personal Capital does a great job of monitoring all the fees within any given investment account, so you can stay on top of your fees and reduce them as much as possible.
Or, use Blooom’s retirement account analyzer to determine your optimal structure. Read our Blooom review to learn more about how it works.
Imagine paying all your life into a plan and not knowing if it will crash and burn just before you need it? That is what Time Magazine reported in their classic article “Why It’s Time To Retire the 401K”.
See, when your money is in the market, timing can be more important than yields. If the market crashes down the home stretch, your dreams can go up in smoke.
The Sequence of Returns Risk should drive home that point….
|SEQUENCE OF RETURN RISKS|
|Beginning Balance: $1,000,000|
|Age||Market Results||Account Value Investor A||Withdrawals||Market Results||Account Value Investor B|
Notice that both investors began with the same million dollars, took the same income, and had the same market results. The only difference is the order (sequence) in which the results came in. Investor A is dead broke in 14 years.
Investor B had 14 years of income and still has almost 90% of his asset.
What is the difference between Investor A and Investor B? The flip of a coin. Timing. What this shows us that it is pure luck (or bad luck) that will determine your future. With a 401K, everything is outside of your control.
Is that really the best system we can come up with? Do you want your retirement to come down to the flip of a coin? There has to be a better way – and there is.
See Related: 401(k) Loan Pros and Cons Analysis (A Case Study)
There is an alternative that is the chassis for 3 great ways to retire with no market risk, no hidden fees and no taxation. It’s a plan that 22% of the top 1% of the wealthy use.
You can learn from the money management habits of millionaires. It’s built upon an indexed life insurance policy.
Alternative Retirement Plan #1 – The Alternative 401k
Why life insurance? For starters, life insurance is the last great tax break. You can retire with a lifetime of tax free money, which means that you’ll also have access to your cash at any age with no tax penalty.
Next, insurance is an industry built around reducing or eliminating risk and this retirement plan is no different. The secret sauce however, is the cap and the floor.
The cap means you’ll earn no more than the cap. Most plans have caps around 13-14%, although there are a few that are uncapped with a spread. But the real genius is the floor. With a floor at 0%, you’ll never lose a dime when the market tanks. Just to give you an example:
If you had $100,000 in the market in the year 2000 and you gained 100% of the S&P500 Index (which a 401K will never come close to, due to fees alone) you would end up with $191,882 at the end of 2017.
But if your money was in a life insurance product with a 14% cap and 0% floor, you would end up with $348,070 – a 181% increase. And that is before taxes! And with no risk of loss, you’ll be able to see an increase of your income in retirement of an additional 25-40% according to a study by the Wharton School of Business.
The product will not only produce a lifetime of tax-free income and but will also have a death benefit, should you die early, something a 401K will never have. And in addition, in the case of a major illness, such as a heart attack, stroke, or cancer, you can get an advance of up to 90% of your death benefit.
Let’s review the benefits:
- No risk of market loss
- No hidden fees
- Tax-free income for life
- Death benefit
- A lump sum for a major illness
- More money in retirement
From there you can take your income and continue to pour money into Wealthsimple and be completely worry-free with your investing. By retirement, you will have a nice nest egg for retirement plus your 401k alternative.
Alternative Retirement Plan #2 – The 5 Year Plan
All retirement plans have one major flaw in common. It takes a lot of time to build up a head of steam. Not just a lot of time – a lifetime. But with this specialized plan for 6 figure earners, all premiums are made in the first 10 years. This plan uses OPM – other people’s money (a loan) so the account has built up a full head of steam early on.
Most people can only build a business using a loan, and a loan for retirement makes for one of the best plans you’ve never heard of. By applying for a loan in the front end, you can secure a lifetime of a ton of money after paying premiums for only 5 years, while the lender pays premiums for 10 years.
The plan works like this. You pay premiums for 5 years only. The lender matches your premiums for 5 years and then doubles it for years 5-10. The lender pays $3 for every dollar of yours.
Then in years 11-15, they get their money back with interest. Since the collateral for the loan is the policy, there is no risk for the lender. And the loan will not affect your credit. By dumping in all the premiums within the first 10 years, the money grows at breakneck speed.
As an example, a 30-year-old male in good health will pay premiums of $20,000/yr for 5 years only and retire with an income of $207,000 per year from ages 65-90 and still have a life insurance policy with $1.2M in cash. This could be one of the many financial issues of DINKS.
What if the market doesn’t do so well? The company also runs an illustration showing you how much you can retire with under a “Great Depression” scenario.
Even there, you’ll retire with a 6 figure income. It’s truly amazing how an account will grow when it’s impossible to lose any money.
Too good to be true? No, this product is offered by 4 different A-rated life insurance companies, which means they are monitored by your state as well. People trust life insurance because it is safe.
Alternative Retirement Plan #3 – For Business Owners
This plan is a variation of the above. It can be utilized for even more income and a great way to shelter more money from taxes. It’s only available to business owners or their key personnel.
This method also uses a loan to front-load the policy as well, but the loan is run through the business. Follow the money. The business takes out an interest-only loan. Then the business loans the money back to the owner.
The owner then pays the interest only payment back to the business. What you get is a tax break on the front end, since it’s a business loan and tax-free money in distribution. And yes, this is IRS approved and tested.
This plan requires your CPA to sign off on it, so someone you trust will vouch for the plan design.
When the owner retires and sells his business, the loan is repaid. It is a beautiful way to convert taxable profits to a tax-free income. It’s another safe way to retire with a lifetime of tax-free dollars and leave millions to your heirs.
See Related: Best Retirement Quotes (Including Funny, Short and Inspirational)
401k Alternatives Summary
How do you know when you are ready to retire? All three plans are built with safety due to the floor. All three will generate an income of tax-free money. All three leave tax free money to your heirs in death, and tax free money to you should you suffer a major illness.
The first plan is perfect for the average worker with a regular income. Plan #2 requires a 6 figure income in order to qualify and Plan #3 is for business owners or key personnel.
Since they are built upon a life insurance policy, health is a key issue, and will not be for everyone.
If you’d like to check out a good educational website with some great videos, go to The 401K Alternative. There you will see one of the many calculators that will compare your current plan to the alternative. So let the numbers speak for themselves.
Then contact your financial planner and have a discussion. If they aren’t familiar with plans 2 & 3, have them contact me and I’ll bring them up to speed. It never hurts to get a second opinion.
And remember this: Until you eliminate risk you are not planning, you are hoping! John Medwin has been a designer of specialty retirement plans since 2006. He can be reached at [email protected].
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What 401k alternatives are you aware of? Are you saving enough fees for retirement? Please let us know in the comments below. We’d love to hear from you!
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I don’t understand. If the S&P increased by 100% but you were capped at 14%, how could you possibly make more money?