Is it better to live on ramen at age 26 or 66?
May 27, 2014 11:55 AM   Subscribe

Is there any point in letting my employer open up a 401k even if I have no money to put into it?

I recently started a new-but-temporary job, which I'll be at until the beginning of September. After that I don't know what my employment situation will be.

I am going to be automatically enrolled in their 401k unless I opt out (at 4% of my pay I believe.) There is no matching.

I am in my mid 20s and I have no savings and no debt. I have been living paycheck to paycheck recently because of a series of events that wiped out my cushion. I'll be able to save around $500 a month at this job, but I'd like that primarily to be going towad rebuilding my emergency fund. So, I could afford to stick the money in a 401k technically.

In September, I have no idea where I'll be working or if they'll offer a 401k (likely not.) If I were to open one now, could I keep contributing to it even if I'd moved on to another employer that didn't offer it?

Would it make sense to put that money somewhere else? I'd like to start thinking about long term saving, I just make so little (around 20k a year) that it seems silly to start socking anything away.
posted by geegollygosh to Work & Money (14 answers total) 3 users marked this as a favorite
I wouldn't do a 401(k) with an employer if they don't match. Employers typically don't have a large selection of funds to invest in, and frankly, if I were to put the money into a retirement account, I'd put it into a Roth IRA and pick the investments myself.

So opt out and manage your own money.
posted by Ruthless Bunny at 11:57 AM on May 27, 2014 [12 favorites]

Four months of 4% will end up being more trouble than it's worth. Work on re-establishing your emergency fund for September.
posted by Etrigan at 12:02 PM on May 27, 2014 [4 favorites]

If I were to open one now, could I keep contributing to it even if I'd moved on to another employer that didn't offer it?

No, or at least probably not (and for the reasons Ruthless Bunny notes, you probably wouldn't want to anyway because employer-sponsored 401k funds tend to suck like God's Own Vacuum unless you're at a F500 company and maybe even then). You can roll funds from a 401K to your own IRA when you leave a company, and that's something I'd recommend most people in today's economy understand how to do.

But if there's no employer match I wouldn't screw around with their 401K.

Personally, what I'd do is open a Roth IRA with the brokerage of your choice (I like Vanguard, they're not out to wring money out of you and their cost structure is quite good), and put the 4% that you would be putting into the 401K in there. The tax treatment of a Roth is preferable to a 401K or IRA if there's no "free money" on the table for the latter.

There are typically account minimums of $1,000 or so to open a Roth so I'd basically build up your emergency fund, and once you have your emergency fund + $1k I'd open that Roth.
posted by Kadin2048 at 12:10 PM on May 27, 2014 [4 favorites]

Your priority is an emergency fund.
posted by MoonOrb at 12:11 PM on May 27, 2014 [1 favorite]

Just to make you feel better, I didn't make enough (read: any) money to even be able to think about retirement funds until I was 27, and only as of last month (age 28) got money into a 401k plan. First thing I did was get a solid emergency savings in place. Second thing I did was pay down my highest interest student loans. Then I worried about retirement (and started with a Roth IRA).

Don't worry about this yet. I know all of the responsible people around you are being all sputter sputter retirement plan omg, but for some of us it's a luxury that takes a little longer to achieve. Like MoonOrb says, your priority right now is building up an emergency savings.

Wait until your more permanent job to make the 401k decisions.
posted by phunniemee at 12:21 PM on May 27, 2014 [2 favorites]

The tax treatment of a Roth is preferable to a 401K or IRA if there's no "free money" on the table for the latter.

Can you unpack this a bit? The 401(k) option is the way to go if there's a match, or if you can afford to max it out (the cap is much higher than with a Roth/IRA). Otherwise, I don't understand how a Roth is superior tax-wise to both a traditional IRA and even a 401(k).

IRA and 401(k) contributions are pre-tax, and thereby reduce current tax liability now (the Gov't recoups later upon disbursal).

Roth contributions are after tax and do not reduce current tax liability (but the Gov't does not recoup later upon disbursal).

I suppose for a younger worker the Roth is more attractive because tax rates early in a career are lower (so there's not much to be gained with IRA contributions). The other advantage of the Roth is the ability to withdraw contributions at anytime without penalty or additional tax. So it's possible to imagine it as a kind of high-potential-for-earnings emergency fund.

In any case. Can you clarify?

To the OP: If you opt-out, be sure you "bank" that 4%. (In whatever vehicle suits you.)
posted by notyou at 12:33 PM on May 27, 2014

A Roth is perferable because yes, it's post-tax money, but any withdrawls after age 59.5 are not part of your Adjusted Gross Income, so you don't pay taxes on that money.

The Wikipedia article is pretty good an listing the advantages.
posted by Ruthless Bunny at 12:48 PM on May 27, 2014

No debt, and a realistic plan to re-stock the emergency fund. You sound like you've got a handle on your finances, and I would not start this 401K. It's absolutely true that the sooner you start saving for retirement, the better, but there are ways to approach it. Staying out of debt is huge. Developing career skills and a good professional network.
posted by theora55 at 1:16 PM on May 27, 2014

Though your employer will likely say that they are looking out for your future, auto-enrollment has become a popular way for employers to pass anti-discrimination testing for 401(k) plans. Basically, the highly-paid employees at your firm may be limited as to how much they can put in their 401(k) if the remainder of the workforce does not participate at a high enough level. Companies have found that once you opt someone in they often just stay there, so they've started doing that to pad their stats.

As everyone else has said, given that there is no match and that the "pretax" contribution element is not materially valuable at your salary level, there is very little to gain from the 401(k) enrollment. An IRA will be a good substitute for retirement, and an emergency fund is the best first destination for that money.
posted by AgentRocket at 1:43 PM on May 27, 2014 [1 favorite]

A Roth is perferable because yes, it's post-tax money, but any withdrawls after age 59.5 are not part of your Adjusted Gross Income, so you don't pay taxes on that money.

But as notyou points out, a 401(k) is pretax money. Either way you are only paying taxes once.

But there's a subtler reason that a 401(k) may be preferable. If all your retirement savings is in a 401(k) or traditional IRA, when you go to withdraw it in retirement, it is taxed like ordinary income--progressively. That means the first $X is not taxed at all, the next $Y is taxed just slightly, the next $Z is taxed more, and so on. The 401(k) is being taxed at your overall tax rate, not your higher marginal rate.

But the money you put into a 401(k) now reduces your overall income, which means that you are paying that much less in taxes at your marginal rate. Assuming all tax rates stay constant and that you have no other income at retirement, you are much better off tax-wise in a 401(k).
posted by payoto at 1:56 PM on May 27, 2014

However, payoto, money is far more valuable now than in 40 years. If I were geegollygosh, I would invest the money in flexibility in my life. Having liquidity at 26 is far more important than what may or may not happen in 40 years. A world banking crisis might wipe out all investment value. Geegollygosh may die. Robots may take care of our old age, making savings irrelevant.

Whereas being able to quit a lousy job, or wait two months to take a great one, may make a big difference next year. Not to mention being able to buy a house down the road.

Frankly, I wouldn't lock any money up at 26, except in real estate.
posted by musofire at 2:41 PM on May 27, 2014

$1000 put aside at age 26 is about $14,000 at age 65 - assuming a 7% average return. The one thing you have on your side at age 26 is time for the miracle of compounding to do it's magic. If they aren't matching I'd skip the 401K and use Vanguard, as suggested above. You can borrow to repair a car, buy a house, or put a kid through college. You can't borrow to retire. I'm 46, and I really wish somebody would have slapped me upside the head when I was 21 and got me to save more diligently.
posted by COD at 5:21 PM on May 27, 2014 [2 favorites]

This has been written before, but I feel a need to repeat it.

Why on Earth would you put money into a 401k that isn't getting any sort of match from the employer? They are basically opening up a account for you that you will have to go through the hassle of consolidating with other accounts at some point in the future when times are better for you.

I strongly recommend saving for retirement. Every dollar you save now is several dollars 40 years from now when you rather not be working. Also, if your income is low right now, I strongly recommend you invest it in a Roth IRA or some other account where you pay the taxes now and not have to pay the taxes later when you are withdrawing it and might actually have more taxable income. You certainly won't have LESS taxable income then!

If you are truly in a place where you cannot save right now, I recommend that you make it a priority to get yourself in a place where you can. That 20-something retirement investment is golden thanks to all the time it will have to compound before you hope to retire or at least be working less.
posted by BearClaw6 at 6:35 AM on May 28, 2014

Roth IRA in something low risk. It can be a core of your emergency fund because there is no problem withdrawing your contributions. $500 a month is enough to fill it up.
posted by Salamandrous at 4:30 PM on May 29, 2014

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