Jump to content
Objectivism Online Forum

Reblogged: A Cold, Wet, and Windy Tax "Shelter"

Rate this topic


Recommended Posts

For some clear thinking about a common tax "shelter", mosey on over to this article on 401(k) plans by James Altucher. Here's a sample of some thinking unclouded by conventional "wisdom" or the doe-eyed trust in government-as-brain-substitute too many people seem to have these days:

Let's look at it conceptually for a second and then I will look at the cons.

You are paid money by an employer. You have that money in your hands for five seconds, and then it is whisked away into this account and you can't look at it again for another 20-35 years unless you want to pay a massive penalty.

Will you be alive in 30 years? Hopefully! Else you will never see that money again.

Ok, that's my first problem with 401k. I like to have total control over money that is called mine.

Perhaps I am being overly harsh to call so many people naive. The tax code, designed to "nudge" us into letting the fed make choices for us, is quite complex, and most people, understandably, don't want to waste precious time having to contemplate it. Altucher does a great job of essentializing this particular scheme and asking the right kinds of questions to help his readers realize that perhaps what our tax code encourages us to do isn't necessarily wise.

-- CAV

Link to Original

Link to comment
Share on other sites

Altucher does ask some great essentializing questions. A point he does not touch upon, and is outside the purvey of his comments, would be that banks are currently paying a much lower return on the money that even the average recognized by the stock market. How many folk are towing the government push toward 401k's on this detail.

 

Yaron Brook's financial talks provide some good supplemental material that cover active vs. passive investor mentalities. Three that I have are:

In Defense of Financial Markets

Investing: An Objective Approach
Money-Lending: Its History and Philosophy

Link to comment
Share on other sites

I don't get most of the criticism in the article. True, the government should not have these 401K plans, but as long as they exist, they can be a good fit for some people, and I'd guess for a majority. First consider these anti-401K points in the article (I'm leaving out the substantial one):

 

1. Employer match is not so great: If we assume that employers would otherwise pay this in other ways, it is basically a wash. Even when vesting is slow, one has to assume that is taken into account in how much employers would otherwise pay, sans 401k.

2. Fees are high and market returns are low: The vast majority of people who have money invested via 401K accounts would not otherwise be investing in some hugely money-making alternative. Otherwise, they would be. They'd probably go to the same types of money managers, pay the same types of fees and get the same types of gross returns.

3. Instead of saving in stocks, bonds, commodities, invest in earning more... particularly things that can earn you income-streams into your retirement. One can argue this point, but basically the money one should consider putting into a 401K is money one would otherwise put into stocks/bonds/etc. for retirement only, not for any other purpose. 

 

The substantial point is:

1. Your retirement tax-rate may be higher than your current rate. This can happen in three ways:

1a. You're earning more in retirement than before retirement. If this is true, more power to the investor, but 401Ks are targeted toward people who will typically earn significantly less, and will almost certainly be in a lower tax bracket when they retire. 

1b. Tax rates may rise: True, they probably will, but the typical 401K holder will still be in a lower tax-bracket.

1c. You take out more than you put in, so you pay tax on a higher amount: The author clearly does not understand the math involved. To compare apples and apples, he needs to compare against a similar investment in a taxable account. On such an account, one would keep paying tax as one earned income and as it grew... not just one the original post-tax investment. In addition, the 401K allows one to compound at a slightly higher rate, because of the tax-advantage.

 

Still, I say this is a substantial point because one can never really predict the law 30 years hence. So, anyone who think huge confiscatory changes are coming in the decades ahead could well argue against 401Ks.

 

The bottom line is this: if you are the type of person who intends to save a certain amount for retirement in the form of stocks, bonds, mutual funds, etc., and if you are the type who will typically seek financial advice of a typical financial adviser,....  then investing some part of such money in a 401K is a good idea. If you think you'll change jobs every few years, it is slightly better, because you can move the money to a IRA and have a higher degree of control. 

Edited by softwareNerd
Link to comment
Share on other sites

Leaving a job gives the opportunity to move funds into a self-managed account. The downside is leaving prior to being fully vested in the current companies retirement vehicle.

 

The "free money" is the amount of match offered by the company. As pointed out, the fees can countermand this match, or the higher salaries where such a match is not offered will augment the bottom line.

 

Future tax rates will also impact the bottom line, Presumably these will be across the board. In the event that they are not, all bets are off. The predominant point is that electing for a 401k takes the monies involved and removes them from direct control. This is true even if you leave a job prior to being vested, although the "matched" money disappears from the equation.

 

To most 401k participants, this option is sold as a long-range gain over short-term pain. The "free=money" is an additional incentive tossed in to sweeten the pot.

 

Unless you are committed to a long-range view over and above what the government is offering as an "incentive"  the 401k plans offer an alternative to the "eat, drink and be merry—for tomorrow we die" mentality. Problematic? Yes. Alternative solution . . .  pending.

Link to comment
Share on other sites

Join the conversation

You can post now and register later. If you have an account, sign in now to post with your account.

Guest
Reply to this topic...

×   Pasted as rich text.   Paste as plain text instead

  Only 75 emoji are allowed.

×   Your link has been automatically embedded.   Display as a link instead

×   Your previous content has been restored.   Clear editor

×   You cannot paste images directly. Upload or insert images from URL.

Loading...
  • Recently Browsing   0 members

    • No registered users viewing this page.
×
×
  • Create New...