Most of my clients embrace payroll deduction retirement plans including the 401(k) and 403(b) which offer the benefit of tax deductible contributions and tax-deferred growth. However, once in a while I’ll meet someone who prefers not to participate in these sorts of plans because they don’t like the idea of giving up liquidity until they are much older. Also, tax-deferral still means paying tax when that money is withdrawn, creating a tax headache which often requires careful planning during retirement. According to research firm Hearts and Wallets, short-term goals and financial independence take precedence over traditional tax-deferred retirement savings accounts for many of the more affluent Generation Y investors.*
The issue is not necessarily that Gen Y doesn’t understand the importance of saving for long-term goals, rather, short-term goals including buying a home present financial benefits as well. Saving for short-term goals including a home are better achieved with liquid brokerage accounts rather than deferring income into 401K plans. Plus, brokerage accounts allow for a wider variety of investments and typically lower annual fees. Showing historical data which demonstrates why this younger generation of investors should utilize tax-deferred retirement plans may not overpower their desire for near-term liquidity.
The research also shows that the complexity involved with group retirement plans including penalties for early withdrawals, complicated loan provisions, and limited investment options are factors when comparing benefits and drawbacks of pre-tax retirement plans to after-tax brokerage accounts.
As an advisor, I think it’s important to first understand the priorities of your client. You also want to understand the retirement plan options in question. For example, if a client has access to a company match (free money) that participant may want to consider contributing at least what they have to in order to receive the match. Beyond that, perhaps they contribute after-tax money to a brokerage account instead of maxing out the retirement plan. I like to explain to clients that your 50′s and 60′s creep up on you and having some level of illiquidity through these plans is actually a good thing. When you have liquid savings, there is often a tendency to use them, so unless you have solid discipline and a great eye for investment opportunities, it’s often a benefit that you can’t access those funds without penalty until you are much older.
The problem of the changing retirement landscape is also a big consideration here. Less than half of Gen Y investors think of retirement the way their parents do. The entrepreneurial spirit is much stronger now, especially as corporate (and government) retirement benefits continue to diminish. Transitional retirement is something many Gen Y and Gen Xers accept and even embrace. Many of my own clients under 35 who I ask these questions to tell me retirement is hypothetical at this point in their lives and that it’s hard to prioritize.
Overall, I think this trend towards liquidity and brokerage accounts is very interesting. As a Gen Y investor myself, I have more than half my liquid savings in after-tax brokerage accounts compared with pre-tax retirement plans. The reason is that I want my funds available in case I decide to invest in real estate, fine art, or something else which has a different set of risks and rewards than stocks and bonds.
As always, feel free to reach me with any questions or concerns.
Premier Wealth Advisors, LLC
14 E 60th Street, #402
New York, NY 10022
P: 212-752-4343 *231
Securities offered through: First Allied Securities, Inc., a registered Broker/Dealer. Member: FINRA/SIPC. Financial Planning offered through First Allied Advisory Services & Premier Wealth Advisors, Inc. Premier Wealth Advisors, Inc is a Registered Investment Advisor. First Allied Securities & Premier Wealth Advisors, Inc. are not affiliated entities.
*Financial Advisor Magazine, April, 2014 – Hearts and Wallets Research Research Group