A 401k retirement plan enables those in the workforce to save for retirement by having that savings invested while avoiding taxation until time of withdrawal. Many employers offer matching funds as part of their benefit package.
Self-Directed: What does that Mean?
A Self-Directed 401k is exactly the same as any other 401k except that it allows you to choose precisely how you want to invest your savings. Traditional 401k investments are typically limited to reliable stocks, mutual funds, CDs, bonds, and sometimes company stock. At times, individuals are allowed some choice, but usually only within a finite range of products offered by a certain company. Normally a trustee or manager chooses from this group of more conservative investment choices.
Owners of Self Directed 401k accounts have access to almost unlimited investment options including stocks, bonds, real estate, tax lien certificates, notes, and more. With such a varied selection, participants are more likely to find better performing funds and, therefore, increase their retirement savings.
Of course, as with any financial investment, there are certain risks involved. The participant must become knowledgeable about smart investment practices. Sometimes having more choices makes it more difficult to make a decision. With Self Directed 401k plans, there is definitely an added responsibility on the participant.
Employers worry that their employees will make uneducated investment choices and possibly blame them. As a result, companies have been trying hard to provide education – about the pros and cons of Self Directed 401k plans — to their employees. Also, some employers will only let individuals self direct a certain percentage or monetary amount of their 401k plan.
If you are part of a company that offers Self-Directed 401k options, be sure to follow these important rules:
- Be aware of contribution limits. Just as with a regular 401k plan, you can only put in a certain annual amount. Typically, this limit changes from year to year. In 2008 the maximum monetary contribution was $15, 500 per employee.
- Consider withdrawal rules and associated penalties. Generally, you are not supposed to make withdrawals until retirement. If you do so before that time, you will be subject to penalties including, but not limited to, taxation of the withdrawn amount.
- Do not choose investments that could be labeled “self dealing” or from which you will indirectly benefit. For example, you cannot decide to invest in a company owned by a family member or someone who has a fiduciary interest.
- Ask about any additional costs. Often there is an administrative and/or per transaction fee. Participants are responsible for paying these.
- Take the time to educate yourself about investment strategy. Know the risks and work hard to make sound investment decisions.
Although there is certainly some chance involved in being the owner of a Self Directed 401K, most individuals are thrilled to have the option. Everyone would agree that there is something empowering about being able to manage your own money and make your own financial decisions.