Like IRAs (and other types of retirement plans),
401(k)s are protected from creditors in bankruptcy court.
Since they are governed by federal law, they also enjoy a bit more protection
from creditors if you don't file bankruptcy. IRAs fall under state law, and each
state has slightly different rules governing how or when creditors can access
your retirement funds, says Choate.
Since your employer sets
up the plan, you're limited to whatever vehicles the company selects. "Its
weakness is the lack of the right asset classes," says Paul Merriman, author
of "Live It Up without Outliving Your Money!" His solution: Balance
it with the investments in your IRA.
Employer matching often
depends on a vesting schedule, so if you don't stay for a certain number of years,
you can't keep all the money your employer put in your account, says Foster.
drawback of an employer-sponsored plan: The company sets the rules. So not all
401(k) plans are created equal. While 401(k)s
can be very flexible, individual companies can make them more restrictive, especially
when it comes to borrowing money or making payments to heirs.
you put money into a 401(k), it's difficult to get it
out prior to retirement. Some company plans will allow you to borrow from yourself.
But should you borrow and then lose your job, you've got a short amount of time
to repay the debt.
When you retire and start taking out money,
it's taxed as income.
If you're married, federal law mandates
your spouse must be your beneficiary. If you want to leave this money to children
or another family member, you have to get spousal consent.
If you work for a smaller company, it might offer what is known
as a SIMPLE, or Savings Incentive Match Plan for Employees, IRA. A SIMPLE IRA
also can be a good option for self-employed individuals, says Foster.
a SIMPLE, the employer will match some of your contributions following one of
several formulas. Like a 401(k), you set up contributions
to come out of your income before you see the check and receive an annual tax
deduction. The money is taxed as income when you take it out of the account at
Unlike a 401(k), there
is no vesting schedule for employer matching. Any employer contribution "is
yours immediately," says Foster. "You could literally quit the next
day and get it all."
With a SIMPLE, an employee can contribute
up to $10,000 in 2006 ($10,500 in 2007) annually in addition to any employer matching,
says Foster. An additional $2,500 catch-up contribution is allowed for those over
Unlike a Roth IRA, you can't pull your contributions out
any time you want. SIMPLEs carry the same penalties for early withdrawals as traditional
IRAs, unless the money is for a qualifying event. And if you need to tap the account
in the first two years, the penalty is 25 percent.
a company-sponsored 401(k), you're limited to the investment
vehicles that come with the plan your employer selects.
employers can use one of several matching strategies, you need to understand exactly
which formula your company is using. And remember: Employers can change formulas
annually if they wish.