Devil's Advocate 

401(k)’s and IRA’s Are For Suckers

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This is a Devil's Advocate post.

This Devil’s Advocate comes straight at you and assails the one last bastion of hope for a prosperous retirement – 401(k)s and IRAs. While it probably doesn’t feel that way with the volatility in the market, conventional wisdom says that the best way to save for retirement is tax-advantaged accounts like 401(k)’s and IRAs. The power of having that money grow tax free trumps all other options.

Is that true or is that what stock market brokers want you to believe? If they were so awesome, why can’t you invest your 401(k) and IRA money in anything outside of the stock market? Want to open up a franchise? Can’t do it through your 401(k). Want to invest in your brother’s new business? Sorry, your standard IRA account won’t let you invest in that.

The financial services and investment community has made investing in the stock market as a means of security your financial future a part of conventional wisdom. They lobbied the government and worked to package it together with fancy tax advantaged accounts so that the deal is sweeter. The government is in cahoots because the more wealth that is created, the more tax revenue is collected. Everyone has a very good incentive to perpetuate this idea… they all get paid when you listen to their advice.

It’s About Cash Flow

The point of saving your money in a retirement account is so that you can generate a passive source of income when you’ve stopped working. That part is crucial for retirement, no argument there, but that doesn’t mean the only way to achieve that goal is to save in defined contributions plans like a 401(k) or IRA. There are plenty of other options out there.

One prime example, invest in dividend yielding stocks and funds. Anything you get paid out from a 401(k) is taxed at your marginal tax rate. Dividends are taxed at a special rate that is always lower than your marginal tax rate. If you’re in the 25% tax bracket, you’re taxed a mere 15% on dividends – much cheaper!

You can build cash flow the old fashioned American way, by starting a business. It’s risky but it’s also risky to give your money to a suit (or a computer) taking 1-2% off the top in the hopes that he (or she or it) makes you enough money to retire on. At least with a business, you hold destiny in your hands.

Other Investment Options

Piggybacking off the idea of building your business is the fact that all those retirement plans make it very easy to invest in the stock market and very difficult to invest in anything else. If you want to invest in rare wines, whisky, art, postage stamps or baseball cards (basically anything cool), you’ll have to open a self-directed IRA. Standard IRAs won’t let you invest in anything that doesn’t go through a broker (hmmmmmmm…). While it’s possible, it’s really difficult.

Also, once you put that money in the tax-deferred world, it’s really really hard to get it out without paying a penalty. Unqualified distributions from your 401(k) are taxed at your marginal tax rate plus a 10% penalty – ouch. Need some money to start a new business venture? Either start having bake sales or be prepared to eat the 10% penalty.

Stock Market Is A Ponzi Scheme

I wasn’t the one who said it, Dave Pollard did over four years ago and Mark Cuban thinks the stock market is for suckers. I’m not saying that it’s true just because someone writes it on the internet, but read those two articles and you’ll come away with an appreciation for this point of view.

Flame away!

{ 25 comments, please add your thoughts now! }

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25 Responses to “401(k)’s and IRA’s Are For Suckers”

  1. JimmyDaGeek says:

    “… why can’t you invest your 401(k) and IRA money in anything outside of the stock market? ” This statement points to the stupidity of our system that taxes production instead of consumption. We need the FairTax, NOW. Unfortunately, none of the presidential candidates and almost everyone in Congress refuses to change it.

  2. jim says:

    I think people are scared to change to a totally new system. Think of all the accountants and IRS agents who are invested in this system? If it were to be implemented, some would remain to handle the transition, but the vast majority would have to find something else to do.

    I’m not a fair tax advocate, mostly because I haven’t taken the time to read everything about it, but I think a consumption based tax makes more sense.

  3. Nick says:

    Yay, horrifically regressive tax systems. Everyone refuses to change it because it is a really bad idea that’s primary effect is to increase the tax burden on the poor while incenting people to avoid spending money domestically.

  4. Al says:

    Another fine Devil’s Advocate post! I enjoy articles which fly in the face of “common” wisdom! People grew wealth before the advent of 401(k)s and IRAs. But the lure of tax-defferal is tough to ignore. And matching funds with 401(k)s are also difficult to ignore. As for IRAs, you can invest in just about anything. Gold? Sure, in the form of mutual funds and American Eagles. Real Estate? Sure, as long as you don’t live in your IRA-owned real estate. Here’s a link to a story about investing in real estate through your IRA:

    Keep up the good Devil’s Advocate work!

  5. Stacey says:

    Ironically, I agree somewhat with your marginal tax vs. dividends tax. If taxes stay the same until we retire in 40 years, it will basically be a draw for us – you get a tax deduction on the IRA, and then pay the taxes on everything later. You DON’T get a deduction with regular investments, and only pay taxes on gains. I can see how it confuses some people.

    Of course, we never know what will happen in the next 40 years. Income tax at a 40% or higher, taxing Roths and higher taxes on dividends – I certainly hope not, but anything is possible. We’re hedging our bets by using a mix of Roth, traditional and non-retirement investments. If one type of account gets hurt with a tax change, at least we’ve diversified.

  6. Actually I am for putting your 401K/IRA money in stocks and bonds and against putting it in your own business/whiskey/baseball cards/real estate. Why?

    Because with stock and bonds mutual funds/etfs you are diversified. Stocks are parts of real businesses operated by others. By holding a mutual fund you get a piece of several businesses. There is a higher chance that not all of those businesses would fail. ( even the dot com bubble crash didn’t result in failure for all dot com companies – ebay, yahoo are just two examples for that)

    Statistics claim that 95% of new businesses fail within the first 3 years. If that’s truly the case then if you are not part of the lucky 5% you’d be both without any retirement money ( since you used it to fund your business) and you won’t have your business either.

  7. kitty says:

    ““… why can’t you invest your 401(k) and IRA money in anything outside of the stock market? ””
    Why can’t you? Our 401K has stable value fund, government inflation-protected securities fund and bond funds as well as a bunch of mutual funds that offer bonds and one that has commodities. I thought every 401K has at least a stable value. I’ve had almost half of my 401K in stable value – one reason I lost “only” 20% this year.

  8. Warden says:

    Lowering your taxable income is the most patriotic way to grow your wealth.

    The less you give to the power mongers and bureaucrats, the healthier our democracy will remain. All they do is waste your money, enrich their friends, undermine your values.

  9. says:

    401k’s are for suckers!!!!! Just wait ’till Obama decides to raise some taxes on those assets.

    I’d rather invest after-tax dollars, not because I’ll be further ahead in the end , but because I know I have access to MY money anytime I want it and I don’t have to completely worry about being forced to sell my investments in a regulated manner upon retirement.

    Just wait until there are a lot of baby boomer’s retired and they are all selling a certain percent of their investments each year (because they are forced) and see what they think we they are selling into a depressed market… Meanwhile, I’ll sell my investments when I chose… Freedom to sell when I want, how I want, how much I want is something that I can sleep well at night knowing. Plus, I’ve already paid tax on much of this money… One less thing to worry about in a world where the US may be raising taxes, both for new social policies and just to meet financial obligations. GO watch I.O.U.S.A., the documentary… they have a 30 minute free version they just released on the internet.

  10. says:

    I must add, 401k money DOES eventually get taxed, and the entire amount will be taxed! Yes, I realize if you invest in a 401k you get to keep more money, and invest more money for a long time, and yes, the difference can be massive when you factor in compound interest on that extra money that would have been taxed. But please realize 401ks are nothing more than deferring tax liability, not completely circumventing them. You, in a perfect world, would be ahead by using 401k’s. But…

    That said, I think tax rates will be going up A LOT, and at least my base principal investments have already been taxed and can’t be taxed again (just the gains will be taxed). Think about it. I’m betting we will dramatically increase taxes. Even factoring the the extra money I would make by using a 401k, I think I’ll fare better because I won’t be selling in down years, which many people will be forced to do with the structured withdrawals. That, and I like having CONTROL over MY money.

    Food for thought. Yes, 401k’s make plenty of sense if:
    a) you think taxes won’t go up in the future,
    b) you won’t be forced to sell during down markets, and
    c) the compound returns on the money that would have went toward taxes outweighs any potential risk or liability for increased taxes in the future, as well as the chance of being forced to sell investments during down years where the investments have fallen way below what they are inherently worth.

    If it’s your money, you should have access to it at anytime, no strings attached. I do. I’ll be paying less taxes in the future because I paid some of them now, with lower rates on capital gains and income taxes.

    Go watch I.O.U.S.A.! It’s a great documentary (award winning!)!

  11. Patrick says:

    I am putting the max in my Roth IRA every year because I know that down the road I will be paying more tax. Our debt is so huge and our government continues to spend more and more with no budget cuts. The only way I would invest in a 401K is if my employer were to match and they currently don’t.

  12. JazzBumpa says:

    Dividends only getting taxed at 15% is nice. But the 15% bracket extends up to a bit over $65K. How many retirees have an adjusted gross in that range?

    The stock market has its place, but you might as well realize it is a vehicle for speculation, not investment. My 401K plan has several other options, including bond funds and a stable value fund.

    There are two great things about 401K plans. 1) Most employers match your contribution at some level. That’s free money, and it’s a mistake not to take it. 2) Growing in the 401K, sheltered from taxes, has a lot of value down the road. So what if you pay tax on the way out! You avoided the tax on the way in.

    You will never be forced to sell in a down market, if you can time the market. I’m not convinced that it can’t be done.

  13. JimmyDaGeek says:

    People can help themselves understand our economy if they read a few books on investing in general. They should learn the advantages/disadvantages between owning a stock and a stock fund, between owning a bond and a bond fund. They should also understand the various risks associated with each, including interest rates. They would also help themselves by being able to calculate the effect of taxes on their investments, whether they buy-and-hold, or put money into a 401k or Roth IRA.

  14. LOL! Just recently I edited a soon-to-be-self-published tome by an author who claims exactly this — but with a straight face! Poor guy lost his shirt when his employer went belly-up. A baggage handler, he didn’t understand about diversifying and so obediently accepted all the stock his employer, an airline company, had him buying. So when the airline folded, so did his retirement funds. Twenty or thirty years later, the guy is now running a million-dollar business that he started in a living room…but he hasn’t forgotten the lessons of the stock market. Such as they were: he believes the stock market is a gigantic casino run by scammers whose sole purpose in life is to skim off the public’s money.

    When I read his jeremiad I laughed. Now, though, I don’t think it’s so funny. I just lost another 33,000 well-diversified dollars. Over the past year I’ve lost a hundred grand, and my investments are well managed. Since I’m coming up on retirement age and facing a probable layoff in the near future, I’m looking at spending my old age in poverty. Quite an interesting surprise when you thought you had it made.

    Also none too pleasing is the fact that whatever I manage to leave to my son will be taxed to nonexistence unless I find a way to pull it out of those funds while I’m trying to live on $12,000 a year and then figure out how not to use it up by way of avoiding starvation. Not only did I imagine my retirement was secure, I thought I would be able to leave him enough to help send his kids to college or secure his own retirement. Now that won’t happen. You can bet taxes can only go up: the cost of the “rescues” alone will guarantee that, to say nothing of what it is going to cost to build a decent health-care system in this country.

    When I started at the Great Desert University, I had a choice between investing in a 403(b) or the state pension fund. Now I’m beginning to wonder if I should have selected the pension fund! The state matches that investment, too. Your heirs don’t get any money back when you die, but at least you know you’ll have an income while you’re still living.

  15. Peppy says:

    Even at about its recent worst (Dow=7550) over the 22 years of my 401k, almost exclusively in stock funds, the average annual rate of return was over 7% *- down from about 11% in October 2007, the Dow’s high. Only 36% of my total was my/employer contributions – all the rest was earnings. So, stick the money in the mattress, I would only have had 36 cents on the dollar. Don’t know of any money fund or CD that would have returned 7%+ consistently over that time. I FEEL like I have lost a lot, but in reality, even at its worst (so far) it has represented a reasonable (if modest) rate of return.

    *I can calculate this becasue I know how much I put in every year for 22 years, so using a spreadsheet, I can calculate a true internal average annual rate of return, not just a simple average technique.

  16. krs says:

    The stock market is definitely for suckers this year. I wonder how long it’ll take for me to recoup all my losses. My 401k alone is down 31% year to date.

  17. Frustrated says:

    Well let’s see…401(k)s and IRAs are for suckers huh?

    Alternative 1 (the “prime example”): Invest in dividend yielding stocks and funds. I have to assume this is to be done in a standard brokerage account since you’ve lambasted IRAs and 401(k)s. So let’s compare, shall we?
    1. Income tax must be paid prior to investment in your standard brokerage account. That income is not deductible as it is with a Traditional IRA.
    2. Dividend tax must then also be paid on the dividend that is distributed; that’s a second tax. That changes the game a bit. (I won’t even get started on the fact that the corporate earnings were also taxed before they were distributed…it baffles me that we can still have such a national debt.)
    1. Assume a current marginal tax rate of 25% for the individual in question. The lower the initial tax rate, the less beneficial the Traditional IRA becomes.
    2. Assume you’re one of the evil “rich” by the time you retire and the ending tax bracket bumps you up into the 35% range. The higher the ending tax rate, the less beneficial the Traditional IRA becomes.
    3. Assume a 10% rate of return from these dividends. For comparison purposes, it’s only reasonable to keep the rate of returns the same in both scenarios since we’re comparing accounts, not instruments, as you can invest in dividend yielding stocks and funds in your Traditional IRA as well. Let’s say the entire return from the investments is a dividend in order to use that 15% tax rate, no capital gain or loss at all. Dividends are not taxed in your Traditional IRA as long as they don’t leave the account. Just reinvest them since this is for retirement and once again you compound returns on money that would have otherwise been paid in taxes. The lower this rate of return, the less beneficial a Traditional IRA is.
    With the above assumptions, the only way the dividend bearing stock in a standard brokerage account is more beneficial than the Traditional IRA is if you’re older than 51. In that scenario, the benefit of investing your tax savings cannot outrun the drawback of paying taxes on the ending distributions in under 14 years. Lowering your annual rate of return will extend that 14 years out further change the benefit at an earlier age; as will a lower current tax rate and a higher ending tax rate. To whom does the author’s claim apply? If you’re old and currently poor but expect to hit it big in the next few years before retirement age, your Traditional IRA won’t be beneficial.
    What’s the solution? A Roth IRA is ALWAYS, from day 1, more beneficial than the standard brokerage account. You pay taxes up front with both. But with the Roth, you don’t pay taxes on your dividends or your capital gains as long as they stay in the account until you’re eligible to withdraw them.

    Alternative 2: Start a business. This is a quick one. A commenter has already hit the nail on the head. The commenter’s numbers weren’t quite accurate, but the idea is sound. According to the Small Business Administration, about 50% of small businesses fail within 5 years as determined by a business declaring bankruptcy. Now, I didn’t check the statistics, but I’m going to go out on a limb and say that 50% of stock market investors don’t lose everything they invested within 5 years. Particularly if they diversify if even just a little bit. The type of person who would be dedicated and intelligent enough to be in that top half of entrepreneurs would probably perform well in the stock market too. Also keep in mind that “not failing” does not reflect success for that other 50% of small businesses. It means the bank didn’t take your collateral to make good on the loan you couldn’t pay because your business floundered. What it DOSEN’T mean is that the other 50% of those entrepreneurs are set for retirement.

    Alternative 3: Well this isn’t really an alternative, just a claim that by some figment of the author’s imagination it’s difficult to set up a self-directed IRA that can invest in anything you want. You pick the brokerage house and it will cost you about 20 minutes on the phone and a few weeks for the signature documents to change hands in the mail (measure it in hours if you’ve advanced to the technology of the fax machine/scanner). If you already have a standard IRA, you can trim that down to about 5 minutes on the phone…total. If that’s…what was it…”really difficult,” then I’m going to go out on a limb and say that you probably aren’t qualified to invest in rare wines, whiskey, art or opening a small business for that matter. You better just spend your earnings because Darwin’s theory will probably catch up with you before you retire.

    I can certainly respect the idea of assisting others with taking all elements into consideration when making a decision. However, it is irresponsible and inaccurate to title something that should be objective – such as advice for one’s future – in such a manner as this article has been. I don’t remember quite how I found this particular website today, but I’ve learned one thing from it. Apparently the only thing that is for suckers is reading the “Devil’s Advocate” posts.

  18. Shawn says:

    What IRA money I have (not much, but it does exist) is/was/will never be in the stock market. There is no law that says otherwise. You are simply incorrect in your logic here. Just plain WRONG!

  19. Ari says:

    What about Self Directed IRAs? They claim to allow investors to invest in non-market assets. Seem a bit complicated.

    • jim says:

      The rules for them seem to be a lot more complicated and I trust and understand non-market assets less than the stock market, so I never investigated that as an option.

  20. sharon says:

    Good article. I’ve always known that in my gut,yet I had to turn over my 40k and watch it leak blood because of all the rules and crooks and incompetence. I am mad as hell and I want my money.I can’t get it because I had to take early retirement.So I am down 70 thousand and if I take it out now the government will get a another cut.Oh, I am mad. And that’s exactly what it is your money invested for the rich stock crooks.They hope you die before you get itand then they want to control your money. and your life. Tax free my behind.

  21. Kathy says:

    You know what, they keep saying that the stock market is the only way to make the best money over time.

    I’m beginning to think that’s all hype.

    By the time you lose your a$$ and finally get it all back, how are you getting ahead?
    You would have been better off just to put it in a regular passbook savings. It might be slower, but what’s so bad about that?

    I really sincerely regret all my 401k type investments. When the market was up, it was fun, but it’s truly a fool’s paradise. The old fashioned way of saving is really superior. My elderly mother is a lot more financially stable that I am. I should have followed her lead.

  22. Robert Steele says:

    All you 401k lovers are making a couple of invalid assumptions:

    1) that the government won’t change the rules of the game sometime down the road while you are locked in. e.g. no withdrawal period and you have to invest most of it in US treasuries (debt).

    2) That the stock market is actually going to go up in real terms before you retire. Think about it, the stock market has basically been flat for the past decade and that is not even counting inflation!

    My biggest distate for 401k/IRAs boils down to lack of control. No one cares more about your money and your retirement than you do. I have been saving and investing for last decade in non-bubble real estate. My equity is still intact, I get wonderful tax write-offs and inflation+leverage is building me wealth. But most imporantly I have built up a passive income stream that will be there if I decide to go to work tommorrow or not.

  23. Lisa says:

    The one thing I see consistently left out of the equation is the fact that most Americans have very little in their savings accounts, which forces them to use their credit cards more. Nobody ever seems to subtract the interest they are paying on credit cards. The average American household now has over $10,000 in credit card debt and we all know what has happened with the interest rates there!! I don’t see how financial advisors can realistically tell struggling families that can barely make ends meet to keep making contributions for their futures when many Americans are struggling just to keep a roof over the heads today!! On paper I get it, but it tells me how out of touch some “financial advisors” are with today’s economic reality!!

  24. Lisa says:

    The one thing I see consistently left out of the equation is the fact that most Americans have very little in their savings accounts, which forces them to use their credit cards more. Nobody ever seems to subtract the interest they are paying on credit cards. The average American household now has over $10,000 in credit card debt and we all know what has happened with the interest rates there!! I don’t see how financial advisors can realistically tell struggling families that can barely make ends meet to keep making contributions for their futures when many Americans are struggling just to keep a roof over the heads today!! On paper I get it, but it tells me how out of touch some “financial advisors” are with today’s economic reality!!

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