Before we get started Hookers and Blow (or H&B) is the generic term given to any spending that is considered wasteful, and for some, a lot of fun. This notion of 401(k) OR H&B is one that most of the conservative financial sites throw at us constantly, of course, they don’t think about what they are saying, so I have to bring out the hooker card.
How many charts have you read showing the power of saving for retirement early vs late? They are lauded as being groundbreaking concepts that everyone must understand, and to an extent I think people should – but we should also learn to move through such concepts, absorbing, refining and evolving. What all these articles focus on is concept of Compound Interest – certainly an important concept that should be taught to all high school students. But what these articles are really promoting (perhaps without always knowing it) is the bigger concept of a Forced Savings Plan.
Sure, there is value in company matching to 401(k)s – huge value, but that isn’t the message, the message is do it sooner, and you will have so much more money.
Compared to whom?
Compared to the Clown to the left of you, who spends his weekends flying to Vegas for a binge filled H&B session, yeah, you’ll probably have more money in your 401(k) than him. But what about the Joker to the right of you who is a landlord by 30? Loading money into retirement accounts reduces monthly cash flow, and also reduces non retirement savings. So while Tom has a nice 401(k) balance that he can touch in 40 years, Jerry might have the opportunity to buy an investment property. Compound those two paths over a lifetime, and it is a lot less clear who the winner will be, though Jerry certainly has the advantage in that his investments are not restricted by his age.
So kids – don’t do too much H&B and think about saving, though the 401(k) isn’t the only route.
Used properly, a 401k is a better investment. Why go for a house (especially your own)? In the last 100 years, the value of your house has only kept up with inflation! Your home is a lifestyle discussion (and forced saving) not an investment.
http://observationsandnotes.blogspot.com/2011/07/housing-prices-inflation-since-1900.html
That’s a weird response – where did I say get your own home? 🙂
I simply stated that a cash flowing property (which is unlikely to be your home unless you mix use it) is an alternative to the 401(k). Ultimately I would have both retirement accounts and cash flowing assets, but the point of the post is simply to highlight that it isn’t black or white- IE if you don’t pay into your 401(k) early you might lose out on that compound interest – but what if you remodel that notion and start funding SEPs aggressively at the age of 50 from your CF?
Matt..interesting..Could you please elaborate on “start funding SEPs aggressively at the age of 50 from your CF”? I have funded my 401K agressively for last 20 years starting at age 25 and have seen it go on a roller coaster ride a number of times. I have a paid home but I cannot bring myself to buy an investment property thinkin about taxes, maintenance and dealing with (some suppozedly bad) renters.
Sure, I was simply suggesting that if you built up a portfolio of investment property over that same period of time you could easily be generating $200K or more in rental income. You could then take $53K of that per year to load up your retirement plans. While you ‘lose’ compound interest within the 401(k), you have actually benefited from the compounding on the investment property side.
It is taking things to the other extreme – using all your cash to create cashflowing (CF) assets and then once you have a diversified portfolio of these use the inflows to fund retirement accounts.
Though I agree, landlording is not for everyone. However, if you instead price in a property manager and an assumed loss, you might still have an investment that you can enjoy, without getting your hands dirty.
but theres also a nice plus of the 401ks flexibility, in that if used appropiatley you could take out a loan from your 401k for a down payment , payback it over time causing no penalty taxes, and have the home.
Are yiu suggesting you cannot take a loan out of a property?
Not at all, but for someone whos starting out saving/investing. the 401k with a company match and taking out a loan on it is a way to quick capital that you may not be able to otherwise do in the same timeframe
To be clear, I am not saying that a 401(k) is bad at all, so there is no need to defend it – that isn’t the argument I am presenting. The argument in this post is that when others laud the 401(k) they compare it to an alternative of zero savings. They don’t consider the opportunities missed.
I like 401(k)s – I’m just saying they aren’t the only route.
Now, back to arguing 🙂 Your point about funding housing with 401(k) money falls into the financing long term debts with short term loans – which has inherent dangers. I am not saying it can’t be done, but those risks do change the math on the value of the matched money when considered short term.
I completely agree with you there’s the opportunity cost of stocks, bonds, etc. its not a good idea just to rely on 401k diversification is needed.
And although there are inherent risks with the 401k loan, it tremendousley helps out those who couldn’t save that downpayment on their own due to a lack of self control
Agreed.