Q. I am 33. I’ve been investing in a 401(k) since I started working, but I'm just now getting serious about the right mix for my investments. I currently have about $70,000. Some is in an IRA rollover. The majority is in my company's 401(k). I have 39.7 percent in small/mid-cap mutual funds, 31.7 percent in large cap mutual funds, 23.8 percent in company stock (the company's match goes here) and 4.6 percent in International mutual funds. I am comfortable with an above average amount of risk.
What is the best way to determine what the percentage breakdown should be? ---K. M., by email
A. There is no short answer to your question. And there is no final calculus that will give you the answer. How you invest depends on your age, job security, and personal tolerance for the ups and downs of the stock market. Your portfolio is 100 percent equities and highly volatile.
Many people who have company stock given as their employer’s contribution compensate for the additional risk by having an offsetting fixed income investment.
If you want to see what other 401(k) plan participants are doing, you’ll find the Hewitt Associates 401(k) index is a very interesting tool. You can find it at www.hewittassociates.com.
They report that in October, 401(k) investors moved out of equities of all kinds, except employer stock. They bought stable value funds and money market funds during the month. With very small commitments to international investments and emerging markets, most portfolio managers would say that Americans were over-invested in U.S. equities and under-invested outside the United States.
Q. Why, if there is such worry about Social Security going broke, is there a limit on the amount of salary that can be taxed? I am not sure what that amount currently is but, I think it is somewhere just under $100,000 a year. It seems like the middle income Americans are, again, supporting our country. ---J. F., by email
A. The employment tax has always had a wage cap. This year it is $102,000, up from $97,500 in 2007. Historically, about 93 percent of all workers earn less than this, the wage base maximum, so it is fair to say that Social Security provides a degree of retirement security for the vast majority of all working Americans.
It could also be said that Social Security assumes that those earning more than the wage base maximum would be capable of saving and taking care of themselves.
What you may not know is that Social Security benefits don’t accrue equally to every dollar of earnings, or every dollar of employment tax paid. This year, for instance, the first $744 of monthly earnings earns a 90 percent credit. Earnings over $744 but less than $4,483 a month are credited at 32 percent. And earnings over $4,483 a month are credited at only 15 percent.
So what a worker receives in benefits is not proportional to his or her contribution. That’s why the Social Security trustees estimate that benefits will replace about 52 percent of a low income workers’ wages and 42 percent of typical workers’ wages--- but only 25 percent of the wages of someone at the top of the wage scale.
If the wage base had no cap--- so that it was like Medicare--- there would be a new question. Would those earning over $102,000 be subject to the tax, but receive no increase in benefits? Or would their benefits be scaled up, even with only a 15 percent crediting rate, to increase their future Social Security benefits?
If the benefit increase path is chosen, the fiscal advantage of extending the employment tax would be significantly offset by the increased benefit obligation.
If the no benefit path was chosen, the change would be a back door way to dramatically increase the income taxes paid by those earning over $102,000 a year. Basically, their marginal income tax rate would increase by 12.4 percentage points. Their total tax rate would rise to at least 40 percent. Some would pay at 50 percent.
That’s a pretty stiff tax rate.
It would, in one step, transform Social Security from a widely accepted and much needed retirement security program into a massive welfare program. It would no longer be a “compact between generations.” Instead, it would be a powerful income redistribution program.
Are you sure you want that?