You Are Probably Using Your 401K Incorrectly!

Dear Reader,

I am going to take a lot of heat for this article, but I am going to ask some very basic questions.

What is the purpose of your 401K?

A lot of people are going to answer me with one word, "Retirement". Some Financial Professionals might even answer more in detail and tell me to put your money (before it is taxed) into a vehicle and have it grow.

Why is it good to have your money, before it is taxed, put into the 401K?

Admittedly, this sounds great! However, let's examine the wisdom of this strategy.

If you withdraw your money before the age of 59 1/2, you will have to pay a 10% penalty AND you will owe Federal and State taxes.

If you withdraw your money after the age of 72, you will pay a massive penalty, as well as, Federal and State taxes.

So, the sweet spot is to pull your money out between the age of 60 through 71 years of age. HOWEVER, you still have to pay Federal and State taxes.

So, no matter what you are paying Federal and State Taxes. You are just doing it at a later date. As a matter of fact, you are not only going to pay taxes on the money you put into the account, BUT you are also going to pay taxes on your gains, whether it be interest, dividends or appreciation.

Here is a chart so you can see what our taxes have looked like since 1913.

In 1978, congress passed tax code 401, section K (Thus the name 401K). If you look at the chart, taxes at that time were 70% of your pay check going to income tax. That did not include State tax either. People were desperate for tax shelters, to hide their money from the government.

Well, now taxes are roughly half of what they were in 1978.

Many of the programs the government funds are running out of money. A perfect example is social security and medicare. Both of these programs are running out of money. Nobody disputes this.

We could just print more money, but that would cause massive inflation.

How likely do you think it is that the government is going to be raising taxes to cover the cost? If you are like me, you think the chances of taxes being raised is very high.

So, what you are doing with your 401K is hiding it from the government when taxes are low and waiting for taxes to increase to take it out? On top of that if you pull it out to early or to late, you have to pay fines on top of the taxes?

In 1978, it was a great idea to put your money in a 401K. It was a great idea as a tax shelter, not a retirement vehicle. In the year 2023, in my opinion, it makes for a horrible tax shelter and even less sense as a retirement vehicle.

There are better options.