Since being introduced in 1980, 401(k) accounts have become synonymous with retirement savings. Recent statistics indicate that more than 70 million people use 401(k)s as a long-term investment tool, accounting for nearly $9 trillion in assets.
Many people choose to build their retirement strategies around 401(k)s because they consider them tax-advantaged accounts. By making contributions to the account during their working years, employees can reduce their current tax burden. At the same time, they are creating a store of assets that can serve as income during their retirement years.
Lance Morgan, Founder of College Funding Secrets, believes many people overestimate the value of a “tax-deferred” account like a 401(k), leading them to miss out on investment opportunities that can deliver higher returns.
“There’s no tax savings when you put money into a 401(k),” Morgan says. “The fact that your contributions are ‘pre-tax’ doesn’t mean you escape taxes. All it means is that you will pay taxes in the future. You are kicking the can down the road.”
Morgan, a Certified Financial Educator and best-selling author, has appeared on FOX Business and at NASDAQ Studio discussing advanced college-funding tactics. He specializes in helping high-net-worth families use tax and real estate strategies to significantly reduce the cost of college while protecting retirement savings. He developed the Creative College Funding System, a done-with-you program that has already carved millions off tuition bills for real families.
“With a 401(k), you tap into tax deferrals, but with real estate, you tap into tax deductions that actually reduce taxes rather than delaying them,” Morgan explains. “At the same time, the value growing in real estate investment properties also grows tax deferred, just like the money growing in a 401(k).”
How real estate investments involving rental property outperform 401(k) investment strategies
The overarching goal of 401(k)s and other retirement accounts is to provide a source of income once the account holder has stopped working. Retirement investment strategies begin with an accumulation phase, in which money is put into an investment vehicle like a 401(k). At retirement, the distribution phase begins, during which funds are withdrawn from the account to provide a source of income.
Morgan recommends real estate investing as a better alternative to strategies that leverage 401(k) accounts. He specifically highlights investing in rental property, which can offer superior earnings potential and tax advantages.
“When you invest in rental property, the rent payments you receive from your tenant generate passive income for your retirement, easily providing the same standard of living you’d experience when drawing from a 401(k) account valued at $1 million,” Morgan says. “And every five years or so, you can raise the rent to fuel an increase in your income. The cash flow from your rentals provides income that keeps up with inflation, which is not often the case with a 401(k), and the value of the real estate asset continues to grow through property appreciation.”
The responsibilities associated with managing properties are one of the perceived downsides of investing in rental properties. But property owners regularly outsource property management responsibilities, paying property managers to act as landlords who oversee rent collection and other duties. Management fees are an upfront cost that must be considered, but they alone should not discourage a beginner investor from entering the real estate market.
Why real estate investors choose a 401(condo) over a 401(k)
To illustrate the tax advantages retirement investors can gain from looking beyond 401(k)s, Morgan points out the benefits of putting money in a 401(condo), which is a creative term he uses to represent a real estate investment. With a 401(condo), investors gain a higher degree of control over how their investment can be leveraged while also experiencing tax advantages.
“One key benefit of a 401(condo) is the tax benefit gained through deductions,” Morgan shares. “With real estate, you can depreciate the asset or leverage other strategies such as claiming deductions on renovations that provide real tax savings. With a 401(k), you get only deferrals, not deductions. And to get those deferrals, you must experience the income reduction that comes with contributing to a 401(k). A 401(condo) generates income, rather than reducing it.”
Morgan also highlights that the rules governing 401(k) accounts legally define how funds can be used, which can limit access during times of need or force withdrawals when they are not advantageous. With real estate, retirement savers gain much more control over the ways in which investments can be utilized.
“You are locked out of your 401(k) until you are 59 ½,” Morgan explains. “You face taxes and a 10 percent penalty if you try to get to it early. With real estate, you have the keys, which means you can manage it in the way that best suits your unique financial needs.”
For retirement savers looking for more control and more opportunities, the real estate world provides options that shouldn’t be overlooked. Successful real estate investing allows you to increase income levels throughout retirement, benefit from tax deductions, and fine-tune withdrawal timing to optimize your return on investment.
