Over the last 10 years, the landscape of investing has changed dramatically.

A key change was the mass migration over to zero-commission brokerages.

Mostly spearheaded by Robinhood, this meant that investors could trade stocks without paying a commission fee for every single trade.

Another huge shift was the popularity of online brokerages.

Previously, an investor would have to learn about potential investment decisions through the newspaper, then either call in or have a physical meeting with their broker just to make a trade.

Lastly, minimum deposits have shrunk over time.

Previously, an investor may need to fork up $100s or even $1,000s to open a brokerage account and buy the stock they want. Now, accounts can be opened with $0 and partial shares of stocks can be bought for as little as $1.

Online, zero-commission, partial share brokerages make trading instantaneous and free.

Trading stocks has never been more accessible than it is now.

So What’s Wrong With 401ks?

Note that this will mainly be discussing traditional 401ks as opposed to Roth 401ks. Traditional 401ks are far more common, and usually what people mean when they say “401k”.

A 401k is the polar opposite of these flexible brokerage accounts.

• Funds cannot be withdrawn penalty-free until 59 ½

• Previous 401ks need to be “rolled over” into new accounts

• You are limited to $22,500 in annual contributions (as of 2023)

• You are told to use the brokerage your employer is partnered with

• Investment options are limited to a handful of funds that vary by brokerage

• For most people, it can only be opened through an employer (must be self-employed to open otherwise)

These downsides are often pointed to as reasons why 401ks are outdated and therefore not worth your time.

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If you’ve ever had money set aside but weren’t sure what to do with it, this episode would be great for you.

I learned a ton of my beginner investing knowledge from The Investing for Beginners Podcast, and I was lucky-enough to be invited onto another episode with them.

Check the below episode out for info about how to handle financial stress and waste during the holiday season, and how to combat it!

Pros of a 401k

Even with these downsides, 401ks have a few significant upsides that shouldn’t be ignored.

Employer Match

This is the big kahuna that makes 401ks so powerful.

An employer match is an immediate, guaranteed, 100% return on investment.

This alone makes a 401k a worthwhile account to have.

At minimum, contribute just enough to max out the employer match (such as contributing 4% of your paycheck).

There is no other account that can offer a return like this.

Now, not every employer offers an employer match. But, if they do, do not skip it.

Tax-Free Growth on Tax-Free Contributions

There are a few retirement accounts that provide tax-free gains.

However, 401ks are even more powerful because that tax-free growth is on tax-free contributions.

To quickly explain, imagine you contribute $100 to your 401k pre-tax. If that $100 earns 10%, you earn $10.

However, if that $100 had been taxed first (like in a Roth IRA or other account), you may only be left with $80. Now a 10% gain is only $8.

This may sound minor, but after 40 years of compounding, a 20% difference in returns (as in the above example) can mean $100,000s.

High Contribution Limit (For Tax-Advantaged Accounts)

Even though a $22,500 contribution limit is worse than no limit at all, it’s actually a decently high limit.

For starters, most people couldn’t afford to reach that limit.

In addition, compare it to the $6,500 contribution limit of a Roth IRA and you see that $22,500 is very substantial.

Lower Current Tax Burden

When you contribute pre-tax funds to an account, you lower your current taxable income. Thus, you will pay less in taxes.

This is great because you “defer” those taxes until you withdraw from your 401k in retirement.

Since your income is likely higher now than it will be in retirement, you will keep yourself in a lower tax bracket, paying less in taxes overall.

Conclusion: Is It Worth It?

Yes. Unequivocally (that’s a tough word to spell), yes.

If for no other reason than an employer match, a 401k is worthwhile. Maxing out this match should be the priority.

Even if your employer doesn’t offer that, tax-free gains on pre-tax contributions are unbeatable. Contributing at least ~5% of your paycheck is a great place to be.

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Before You Go

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