1. Not maximizing 401k match
401k matches are like free money. If your company has a matching program, take advantage of it!
2. Not properly allocating your 401k with your risk tolerance
The percentage of stocks vs bonds in your 401k should adjust as you get closer to retirement. Stocks have a higher expected return compared to bonds, but bonds provide a more stable investment experience. The % of your portfolio invested in bonds should increase as you get closer to retirement. On the flip side, young investors should have a portion of their portfolio invested in small value stocks which have a higher expected return but are also more volatile than large cap stocks.
Historical Returns provided by DFA’s 2015 Matrix Book
Large Cap Stocks: 10.1% (S&P 500 Index 1926-2014)
Small Value Stocks: 13.6% (Dimensional US Small Cap Value Index 1928-2014)
Bonds: 7.9% (Barclays US Aggregate Bond Index 1976-2014)
3. Feeling the need to pay off your mortgage
Mortgage rates are at historical lows. Don’t feel pressured to sell investments with higher expected returns just to pay off a mortgage. Furthermore, the interest paid on a mortgage is deductible from your taxes (Up to $1,000,000 in mortgage debt or $500,000 if married and filing separately)
4. Taking Social Security as soon as possible
Every year you delay taking social security, your benefit amount increases between 7-8%. If you or your spouse has a long life expectancy, we would suggest you wait until at least your full retirement age (66 if born between 1943-1954) or possibly even age 70 to increase your benefit amount. Remember, if one spouse dies, the remaining spouse receives the higher of the two social security benefits, but not both.
How Waiting Affects Social Security Monthly Benefit
Age 62: $1,047
Age 66: $1,396 (33% higher than Age 62 Benefit)
Age 70: $1,842 (76% higher than Age 62 Benefit)
5. Saving for college education in a regular investment account or UGMA/UTMA account
Instead, you should invest in a 529 Education Savings Account (where all investment growth receives tax free treatment when used on educational expenses: including tuition, books and laptops). As an added bonus, you can deduct the contribution amount from your state taxes (as long as you use your state’s 529 plan). For example, the State of Michigan has a 4.25% state tax; if you invested $10,000 for your child or grandchild, you would receive $425 back when you file your taxes that year. No matter which state plan you use, the funds can be used at any U.S. college or university as well as many domestic trade schools and international universities. Tax free investment growth and a tax deduction: that truly is having your cake and eating it too!
6. Unnecessary early withdrawals from your 401k or IRA
Withdrawals before Age 59.5 from IRA or 401k accounts carry a 10% penalty in addition to the ordinary income tax you are required to pay on withdrawals. You should wait to withdraw 401k & IRA funds until after retirement so that you can maximize the effect of tax-deferred growth. Moreover, there is a high chance you will be in a lower tax bracket after you retire, and if so, your IRA and 401k withdrawals will be taxed at that lower tax bracket.
7. Keeping large cash balances in checking and investment accounts
We suggest keeping 3-6 months of expenses in cash. Any balance higher than that is not maximizing the value of money and the power of the stock and bond markets. Market timing should be avoided as it is practically impossible to consistently predict short term moves in the stock and bond markets. No matter how confident you are, resist the temptation to try and time the market. Many people have derailed their retirement savings by "trusting their gut" and trying to predict short term directions in the market. Don't be one of them.
Hope you enjoyed these Seven Tips! Please comment with any questions.