3 Big Myths You Shouldn't Believe About Your 401(k)

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So you got a 401(k) through work (yay!) -- but you're confused about how to make the most of it (gulp)? You're not alone! We all want to do the best we can to save for our retirement, and contributing to a 401(k) offered by your employer is a great way to get a head start (considering it can essentially mean free money). But how are those of us without a background in finance supposed to figure out which funds to choose and how to manage them? 

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Turns out, there are some pretty commonly held misconceptions about how to manage a 401(k), so we asked financial analyst and founder of Ms. Cheat Sheet Kathryn Cicoletti to help us get to the bottom of them.

Myth #1: You need to be an expert to pick the right funds.

Stressing about all the research you're going to have to do to set up your 401(k)? No need: "Overall, the biggest misconception is that you need to know a lot about researching funds to pick good funds for your 401(k)," Cicoletti told CafeMom.

"That’s not the case. If you focus on low cost funds -- by eliminating any funds that aren't low cost, funds that aren't labeled as 'index funds' or 'ETFs' -- and your asset allocation, you're doing a great job," she says. 

When Cicoletti says "low cost," she's referring to the fee you pay to invest in the fund (sometimes called the "expense ratio" or the "management fee"). Some funds charge as little as .01 percent, and many charge in the .10 percent to .15 percent range.

"The lower the fee, the more money is in your investment account growing," Cicoletti said.

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"Funds that charge high annual fees to you, and claim that it's because they can earn you more money, usually end up not earning you more money than if you just invest in a fund that tracks an index," she adds. "Their high fee usually reduces your performance by whatever additional gain they're claiming to make."

If all that sounds overwhelming, it's really not. It's more like a process of elimination.

"If you can just remember that if you're given a list of, say, 20 funds by your HR department, have some tricks to weed out the less appealing ones and get it down to a couple that are perfectly fine," says Cicoletti. "Get rid of the bad funds and you'll be okay."

Myth #2: You should be trading your 401(k) funds based on daily market changes.

Think you should be obsessing over what's happening on Wall Street? Think again. "Another misconception is that you need to trade your 401(k) a lot," says Cicoletti. "Meaning, if stocks are down 3 percent and you hear that in the news, some people think they’re supposed to be buying and selling funds in their 401(k) based on that."

Instead of dwelling on what's happening daily, remember that there will be lots of little ups and downs and instead think quarterly. "If you focus on your asset allocation, how much you want to invest in stock funds vs. bond funds and review that once a quarter, this will keep you on track," says Cicoletti. "One of the worst things you can do is ignore your asset allocation. A ton of retirees had a lot of money in stock funds as we entered the financial crisis -- because they had not been paying attention to their asset allocation and let their stock fund exposure increase over the prior years, without 'rebalancing' -- then stocks tanked, and they lost half their worth. Review your asset allocation once per quarter to make sure you don’t have too much risk."

Myth #3: A 401(k) is always the best way to save for retirement.

Don't assume your 401(k) is all you need to retire comfortably. In fact, other retirement plans like IRAs might offer you more benefits at a lower cost. If your 401(k) contributions aren't being matched by your employer, then the only reason to go that route would be if the taxes are going to be lower when you start withdrawing what you've saved.

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Find out all the specifics of your employer's plan before making your decision -- taking the time to educate yourself now will mean a better future for you and your family. Making your money work for you doesn't have to be confusing or stressful. In fact, it can even be kind of fun!

 

Image via iStock.com/AndreyPopov

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