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What Is a Pension Plan & How Does It Work?

A pension plan is a retirement plan offered by employers that guarantees income to workers after retirement. Pension plans are also known as defined-benefit plans because the monthly benefits the worker will receive during retirement is defined.

When defining those benefits, a pension may offer an exact dollar amount to be paid in retirement, such as $100 per month. But more often, the benefit involves calculating a number of factors, including how much the worker earned while working, how long they served the company, and how senior they were when they retired.

How to Get a Pension Plan

Unlike other different types of retirement plans, such as IRAs and Roth IRAs, an investor who wants to save for retirement can’t just go out and invest in a pension. Like 401(k)s, pensions need to be offered by an employer.

While pension plans were once a mainstay of how companies took care of their workers, they’ve become increasingly rare in recent decades. Only a small relative percentage of private sector employers offered some form of pension to their employees as of 2023.

The biggest reason why companies no longer offer pensions is that it’s cheaper for them to offer defined contribution plans, such as 401(k) or 403(b) plans. But if an American works for the federal, state or local government, there’s a good chance that they may qualify for a pension. Among state and local government workers who participate in a retirement savings plan, a majority are in a pension plan.

How Pension Plans Differ from Other Retirement Plans

The key difference between pension plans and other retirement plans comes down to the difference between a “defined benefit” plan like a pension, and a “defined contribution” plan.

In a defined benefit plan, such as a pension, it’s clear how much workers will receive. In a defined contribution plan, it’s conversely clear to employees how much they put into it. Unlike a pension, a defined contribution plan doesn’t promise a given amount of benefits once the employee retires.

There are some plans, such as a 401(k) plan or 403(b) plans, in which an employer has the option to contribute. They are not, however, required to. In these plans, the employee and possibly the employer will invest in the employee’s tax-advantaged retirement account. At the time of the employee’s eventual retirement, the amount in the fund can depend heavily on how well the investments in the account performed.

There are still other retirement plans, like IRAs and Roth IRAs, which a worker can also fund. Like 401(k) plans, the ultimate payout often depends largely on the performance of the investments in the plan. But unlike 401(k)s, an employer isn’t involved or required to sponsor an IRA.

One big advantage that pensions have over defined contribution plans is that pensions are guaranteed by the federal government through the Pension Benefit Guaranty Corporation. It effectively guarantees the benefits of pension-plan participants. But the PBGC does not cover people with defined contribution plans.

Recommended: What Is a Money Purchase Pension Plan (MPPP)?

What to Do If You Have a Pension Plan

Workers with pension plans should talk to a representative in their human resources department and find out what the plan entitles them to. Every pension plan is unique. An employee may benefit from looking into the specifics, especially in terms of how much the plan might pay, whether it includes health and medical benefits, and what kind of benefits it will offer a spouse or family members if the worker dies first.

For someone just starting in their career, they may also want to ask when their pension benefits vest. In many plans, the benefits vest immediately, while others vest in stages, over the course of as many as seven years, which could affect their plans to move on to a new job or company.

One way to get a better handle on what a pension may pay over time is to inquire about the unit benefit formula. Utilizing that formula is how an employer tallies up its eventual contribution to a pension plan based on years of service.

Most often, the formula will use a percentage of the worker’s average annual earnings, and multiply it by their years of service to determine how much the employee will receive. But an employee can use it themselves to see how much they might expect to receive after 20 or 30 years of service.

Pros of a Pension Plan

Perhaps the biggest pro of a defined-benefit plan is the guarantee of predictable income from the day a worker retires until the day they die. That’s the core promise that the PBGC protects.

Many pension plans also include related medical and other benefits for the employee, as well as related benefits for surviving spouses. Those benefits vary widely from plan to plan and are worth investigating for workers with a pension. Employees who are considering a new role in an organization that offers a pension should also research such features.

A defined contribution plan can also motivate the worker to regularly calculate the amount they’ll have to live on after they retire, and when they can retire. That can open up questions about what they’ll do if they get sick or need at-home care. And by asking those questions, they can look into things like supplemental medical insurance or long-term care insurance, in order to better protect themselves down the road.

Cons of a Pension Plan

But the greatest strength of a pension plan — its reliability and its guarantee — can also be its biggest weakness from a planning standpoint. That’s because a pension can give would-be retirees a false sense of security.

A pension, with its well-insured promise of income, can lead people to ignore important questions and avoid strict budgeting for basic living expenses. That flat monthly income can also lead people to believe that their expenses will be the same each month.

And that can lead retirees to avoid planning for increased overall living expenses due to the effects of inflation or sudden, unexpected expenses that inevitably crop up. There’s also the likelihood that their expenses later in life could be significantly higher, as they’re able to accomplish fewer daily necessities themselves.

That’s why, regardless of how thorough a pension plan is, it can pay to save for retirement in other ways, including through a 401(k), IRA or Roth IRA. Just because a worker has a pension, that doesn’t mean that it’s the only retirement plan that’s right for them. And employees will benefit from preparing for retirement early.

The Takeaway

Pension plans are a type of savings plan that are offered by employers, potentially guaranteeing income to workers after they retire. Pension plans are defined-benefit plans, and differ in some key ways from IRAs or 401(k)s. Pensions have become less common in recent decades, and they have their pros and cons, like any other financial product or service.

Workers could get started investing today by opening an account with SoFi Invest®. SoFi Invest offers an active investing platform that allows users to choose their stocks and ETFs without paying commissions, but other fees apply.

SoFi Invest also offers an automated investing solution that invests users’ money based on their goals and risk tolerance without charging a advisory fee.

For a limited time, opening and funding an account gives you the opportunity to win up to $1,000 in the stock of your choice.


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The information provided is not meant to provide investment or financial advice. Also, past performance is no guarantee of future results.
Investment decisions should be based on an individual’s specific financial needs, goals, and risk profile. SoFi can’t guarantee future financial performance. Advisory services offered through SoFi Wealth, LLC. SoFi Securities, LLC, member FINRA / SIPC . SoFi Invest refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). Individual customer accounts may be subject to the terms applicable to one or more of the platforms below.
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For additional disclosures related to the SoFi Invest platforms described above, including state licensure of Sofi Digital Assets, LLC, please visit www.sofi.com/legal. Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform. Information related to lending products contained herein should not be construed as an offer or prequalification for any loan product offered by SoFi Bank, N.A.
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Guide to Choosing Where to Retire

Perhaps retirement is years or even decades away or something you are planning right this very moment. Regardless of your timeline, your dream lifestyle is likely to be something very specific to your lifestyle and dreams. Maybe you imagine living by the shore and walking on the sand every morning. Or perhaps you see yourself in a college town, spending afternoons at bookstores and cafes. Or you might think of moving within an hour of your grandkids for frequent multigenerational gatherings.

There’s a good chance that your vision of retirement isn’t just about location. Some people may think of downsizing to a smaller home in a low-cost area so they can free up funds to travel the world. Others might want, after decades of hard work, revel in their dream home with a view of a lake or mountains.

Where to live in retirement depends on several factors but is a uniquely personal choice. If you could use some help deciding where to spend that chapter of your life, read on. You can take a quiz to help you zero in on good options, and after that, you’ll learn more about such topics as:

•   What factors can help you decide where to retire?

•   What are some great places to retire?

•   What are some affordable ideas for retirement?

•   When should you start saving for retirement?

Where to Retire Quiz

First, here is a “where to retire quiz” to help you to create your plans.

Factors to Consider When Choosing Where to Retire

Next, here are four factors to keep in mind while choosing where to live in retirement years.

Climate and Topography

When you picture yourself in your ideal location, what is the weather like? Are you the type who wants to live the “70-plus degrees and sunny” lifestyle year-round? Or do you want to experience the full array of season, with fall leaf-peeping and some wintertime snow to delight in?

As you think about your surroundings, it can be smart to daydream a bit and envision where you’d like your retirement to be. One person might want to be in the mountains, another in a small city with loads of easy walking trails but no hills, thank you.

As you contemplate these options, it can be worthwhile to delve into climate reports for each of the states in the United States and check out the “past weather” tabs to see what patterns you may observe. Which sounds most appealing to you? And, here’s a U.S. geographic website that allows you to explore the counties and rivers in a state, elevation, topography, and more.

Friends and Family

When thinking about retirement, don’t overlook the value of having loved ones and their social support nearby. Your dream may be to live where your children or your grandchildren do. If that sounds like you, consider whether these family members are rooted in their communities or if they frequently move (say, for work).

If the first is true, then the situation is probably simpler than if there’s a good chance that your family would move, leaving you in a community that you chose because they were living there.

Do you have close friends that have decided where they want to retire? If so, you might want to consider the area they have in mind. Having the continuity of their friendship could add to your quality of life and help you transition into retirement.

Peace and Quiet? Or Action?

You might love the peace and quiet of small towns, rural areas, and the like, where you can fish, stroll through the woods, and otherwise appreciate the beauty of nature. Or you may want to retire right where the most action is, living in a big city with everything you need within a block or two of your place, plus an array of restaurants, shows, museums, and other attractions to keep you busy. Or you might prefer a suburb that offers the best of both worlds.

Also worth thinking about: Do you want to be in a place where there’s always something going on that you can join? For some people, a 55+ community with ongoing planned activities can be most appealing.

Career Plans

Do you envision saying a permanent goodbye to the workplace in the future, or do you plan to keep working after retirement — perhaps part-time or as a consultant — through your 60s and 70s, and maybe beyond? Or maybe you’re looking forward to having a second act in a field of great interest.

You may have pursued your original career because you needed to earn a certain income, but now you can work in an area that brings you joy, perhaps in animal rescue. Or maybe you want to volunteer for an organization you feel passionate about. There are lots of buzzwords describing the new ways people may work as they reach retirement age, such as semi-retirement and unretirement. Regardless of what you call it, some retirement locations may offer more opportunity than others, depending on the path you envision.

Taxes

There’s no ignoring the impact of finances on where you choose to retire. Some states are more tax-friendly than others. There can be income tax, property tax, sales tax, and other taxes in the mix, so it can be wise to consider the best places to retire for tax purposes before you commit. For some people, where they choose to live in retirement can wind up making a difference of tens of thousands of dollars in taxes.

As you think about your options of where to live when retired, it can be wise to research the potential tax burden of a move (you can find information via some online searching) or meet with a professional who can advise you.

On the subject of taxes and affordability, another facet to keep in mind when thinking about retirement is cost of living. If you imagine retiring to, say, Austin, Texas, you are likely going to need to spend more for that in-demand city life than to live in a small town a couple of hours away from it.

Great Places to Retire

USNews.com provides in-depth information about the best places to retire in 2022-2023. U.S. News & World Report surveys people in pre-retirement and those of retirement age to determine what’s most important to them, and then they use the following formula to come up with their conclusions:

•   Quality of Life Index, 32.5%, which includes such variables as healthcare affordability, air quality, and crime rates, among others.

•   Value Index, 25%, which incorporates factors like housing costs and median household income.

•   Job Market Index, 20%, which reflects the area’s average salary and unemployment rate.

•   Desirability Index, at 17.5%, which reports on the results of a survey of 3,500 people about which metro areas are most appealing to them.

•   Net Migration, 5%, which determines if people are actually moving into or out of the area.

Top 5 Place to Retire

Here are the top five results for 2022-2023:

•   Lancaster, Pennsylvania, which can offer the best of a small city, suburbs, and rolling farmland in one location.

•   Harrisburg, Pennsylvania, a state capital where one can walk, run, or bike along the Susquehanna River.

•   Pensacola, Florida, which offers beaches, boating, and fishing in a warm climate and career opportunities as well.

•   Tampa, Florida, combines the best of city life (concerts, major-league sports) with beautiful weather and access to the water.

•   York, Pennsylvania, has loads of history to explore as well as a lively downtown area with an arts community, shopping, and more.

What’s best for you, of course, depends upon what’s most important to you, so it makes sense to visit places of interest, ideally for enough time that you get a sense of what it would be like to live there, rather than just visit.

For example, before you decide whether to rent or buy a home for retirement in a particular area, you might test-drive living there for a number of months to see what you really think of the climate, activities in the area, cost of living, and so forth.

And, at least in some cases, after people getting ready to retire visit locations that once seemed like the ideal place to live, they find that they’re really happier right where they are. If that’s the case, good for you.

You’ll be retiring in a place you already know well, able to maintain your circle of friends.

Helpful Resources

Beyond the U.S. News resource mentioned above, there is an array of information online, whether you want to research housing prices in a given area on a real-estate listing site or read a blog about what it’s like to retire in a foreign country. Certainly, there are books on these and additional topics as well. AARP magazine is also full of information about retirement locations.

Don’t forget about the value of word-of-mouth. Talking to friends, neighbors, colleagues, and family members about their plans and those of members of their circle can help you learn about what like-minded people are thinking.

Affordable Places to Retire

According to U.S. News, the five most affordable places to retire for 2022-2023 are:

1.    Fort Wayne, Indiana

2.    Ocala, Florida

3.    Scranton, Pennsylvania

4.    Pittsburgh, Pennsylvania

5.    Youngstown, Ohio.

And, no matter where you want to live, funding your retirement in the style you want is crucial.

When to Start Saving

As far as when to start saving for retirement, the answer is likely to be ASAP. In terms of how to save, you may have such options as:

•   401(k) Retirement Plans: These are employer-sponsored plans and can be a convenient way to start saving for retirement.

•   IRAs (Individual Retirement Accounts): Whether or not your employer offers a retirement plan, you can open this type of retirement account yourself. There are two types — traditional and Roth — which are treated differently, tax-wise.

•   Self-Employment Retirement Plans: Contribution limits are higher, because you’re both the employer and the employee. There are several types, the most common being SEP IRAs, Simple IRAs and a Solo 401(k).

•   Pension Plans: If you work for the government or military (or possibly for a large company), you may also benefit from a pension plan. These are less common than they used to be, but still exist.

And, besides asking yourself “Where should I retire?” you’re probably also wondering about choosing a retirement date. To cut to the chase, if you’re looking to live on $40,000 a year in your retirement, you need to save $1 million. Double that if you’re hoping to live on $80,000.

As you save, it can be wise to frequently check in on how your savings are performing. This can help you monitor whether you’re on track, regardless of which of the different types of retirement plans you are utilizing, and make any necessary adjustments.

If you aren’t heading towards your targets at a good rate, you may want to rebalance your portfolio to help meet your goals.

Recommended: Understanding Portfolio Diversification

What If I Want to Retire Early?

Some people want to retire before they reach 65 or 70. If you are among that group, consider the Rule of 25, which says that someone should save 25 times their annual expenses to retire — not annual earnings, but annual retirement expenses.

So if you are calculating how to retire early with annual expenses of $75,000, that means that someone would need to save $1,875,000 to stop working (at a minimum).

Important note: As you do the math, remember that this figure can’t include Social Security benefits because those aren’t available until the designated time (meaning, not during early retirement).

It can also make sense to spend less and save more now to maximize what you’ll have saved for retirement. This can have a doubly good impact. First, spending less can lower the amount needed to save for early retirement, because you’ll have fewer expenses. In addition, the money not being spent today can be invested.

Here’s another way to calculate what may be needed. Take a look at the current budget, cut out what you reasonably can, and then figure out how this budget may change in retirement years. What may require more funds (healthcare, for instance)? Less (like money spent on one’s kids)? This can help you forecast what your line item budget may look like in the years ahead.

Open a Retirement Account With SoFi

When you open a retirement account at SoFi, we can help put your money to work. We first provide you with the educational tools to help you with goal planning, with a focus on mapping out a plan to help you achieve your goals more quickly, and to also help you stick with that plan. We can help diversify your portfolio, aiming to reduce some of your risk. In fact, we invest in hundreds of assets.

And it’s simple to get started: Setting up an investment account with SoFi can take just minutes.

Easily manage your retirement savings with a SoFi IRA.

FAQ

What are the safest places to retire?

Different sources list different locations, but according to U.S. News, the safest places to live in the U.S. are Naples, FL; Port St. Lucie, FL; Fort Myers, FL; Portland, ME; and Lakeland, FL. Once you have an approximate idea of where you want to retire, you can then research crime rates in that zone.

What are the best places to retire financially?

According to one recent report, the best places to retire financially and enjoy an affordable lifestyle are Fort Wayne, IN; Ocala, FL; Scranton, PA; Pittsburgh, PA; and Youngstown, OH.

What are the warmest places to retire?

Among the places where one can retire with good weather year-round are Florida, California, and North Carolina.


SoFi Invest®
The information provided is not meant to provide investment or financial advice. Also, past performance is no guarantee of future results.
Investment decisions should be based on an individual’s specific financial needs, goals, and risk profile. SoFi can’t guarantee future financial performance. Advisory services offered through SoFi Wealth, LLC. SoFi Securities, LLC, member FINRA / SIPC . SoFi Invest refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). Individual customer accounts may be subject to the terms applicable to one or more of the platforms below.
1) Automated Investing—The Automated Investing platform is owned by SoFi Wealth LLC, an SEC registered investment advisor (“Sofi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC, an affiliated SEC registered broker dealer and member FINRA/SIPC, (“Sofi Securities).
2) Active Investing—The Active Investing platform is owned by SoFi Securities LLC. Clearing and custody of all securities are provided by APEX Clearing Corporation.
3) Cryptocurrency is offered by SoFi Digital Assets, LLC, a FinCEN registered Money Service Business.
For additional disclosures related to the SoFi Invest platforms described above, including state licensure of Sofi Digital Assets, LLC, please visit www.sofi.com/legal. Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform. Information related to lending products contained herein should not be construed as an offer or prequalification for any loan product offered by SoFi Bank, N.A.
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.
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Required Minimum Distribution (RMD) Rules for 401(k)s

When you turn 73, the IRS requires you to start withdrawing money from your 401(k) each year. These withdrawals are called required minimum distributions (or RMDs), and those who don’t take them face potential financial penalties.

The 401(k) RMD rules also apply to other tax-deferred accounts, including traditional IRAs, SIMPLE and SEP IRAs. Roth accounts don’t have RMDs for the account holder.

What’s important to know, as it relates to RMDs from 401(k)s, is that there can be tax consequences if you don’t take them when they’re required — and there are also tax implications from the withdrawals themselves.

What Is an RMD?

While many 401(k) participants know about the early withdrawal penalties for 401(k) accounts, fewer people know about the requirement to make minimum withdrawals once you reach a certain age. Again, these are called required minimum distributions (or RMDs), and they apply to most tax-deferred accounts.

The “required distribution” amount is based on specific IRS calculations (more on that below). If you don’t take the required distribution amount (aka withdrawal) each year you could face another requirement: to pay a penalty of 50% of the withdrawal you didn’t take. However, if you withdraw more than the required minimum each year, no penalty applies.

All RMDs from tax-deferred accounts, like 401(k) plans, are taxed as ordinary income. This is one reason why understanding the amount — and the timing — of RMDs can make a big difference to your retirement income.

What Age Do You Have to Start RMDs?

Prior to 2019, the age at which 401(k) participants had to start taking RMDs was 70½. Under the SECURE Act that was raised to age 72. But the rules have changed again, and the required age to start RMDs from a 401(k) is now 73 — for those who turn 72 after December 31, 2022.

However for those who turned 72 in the year 2022, at that point age 72 was still technically the starting point for RMDs.

But if you turn 72 in 2023, you must wait until you turn 73 (in 2024) to take your first RMD.

In 2033, the age to start taking RMDs will be increased again, to age 75.

How Your First Required Distribution Is Different

There is a slight variation in the rule for your first RMD: You actually have until April 1 of the year after you turn 72 to take that first withdrawal. For example, say you turned 72 in 2022. you would have until April 1, 2023 to take your first RMD.

But you would also have to take the normal RMD for 2023 by December 31 of the same year, too — thus, potentially taking two withdrawals in one year.

Since you must pay ordinary income tax on the money you withdraw from your 401(k), just like other tax-deferred accounts, you may want to plan for the impact of two taxable withdrawals within one calendar year if you go that route.

Why Do Required Minimum Distributions Exist?

Remember: All the money people set aside in defined contribution plans like traditional IRAs, SEP IRAS, SIMPLE IRAS, 401(k) plans, 403(b) plans, 457(b) plans, profit-sharing plans, and so on, is deposited pre-tax. That’s why these accounts are typically called tax-deferred: the tax you owe is deferred until you retire.

So, requiring people to take a minimum withdrawal amount each year is a way to ensure that people eventually pay tax on the money they saved.

How Are RMDs Calculated?

It can get a bit tricky, but 401(k) RMDs are calculated by dividing the account balance in your 401(k) by what is called a “life expectancy factor,” which is basically a type of actuarial table created by the IRS. You can find these tables in Publication 590-B from the IRS.

If you’re married, there are two different tables to be aware of. If you are the original account owner, and if your spouse is up to 10 years younger than you, or is not your sole beneficiary, you’d consult the IRS Uniform Lifetime Table.

If your spouse is the primary beneficiary, and is more than 10 years younger, you’d consult the IRS Joint and Last Survivor table. Here, the RMD might be lower.

How does the life expectancy factor work?

As a simple example, let’s say a 75-year-old has a life expectancy factor of 24.6, according to the IRS. If that person has a portfolio valued at $500,000, they’d have to take an RMD of $20,325 ($500,000/24.6) from their account that year.

RMDs can be withdrawn in one sum or numerous smaller payments over the course of a year, as long as they add up to the total amount of your RMD requirement for that calendar year.

RMD Rules for 401(k) Plans

So just to recap, here are the basic RMD rules for 401(k) plans. Because these rules are complicated and exceptions may apply, it may be wise to consult with a professional.

Exceptions to Required Distributions

There aren’t many exceptions to 401(k) RMDs. In fact, there’s really only one.

If you’re working for the company sponsoring your 401(k) when you turn 73 years old (as of 2023), and you don’t own more than 5% of the firm, you may be able to skirt RMDs. That is, so long as you keep working for the company, and as long as your plan allows you to do so — not all will.

This only applies to 401(k)s. So if you’re weighing your options as it relates to a 401(a) vs 401(k), for instance, you’ll find they’re limited.

At What Age Do RMDs Start?

As mentioned, you must take your first RMD the same year you turn age 73, with the new rules being applied for 2023 under the SECURE ACT 2.0. Again: for your first RMD only, you are allowed to delay the withdrawal until April 1 of the year after you turn 73.

This has pros and cons, however, because the second RMD would be due on December 31 of that year as well. For tax purposes, you might want to take your first RMD the same year you turn 73, to avoid the potentially higher tax bill from taking two withdrawals in the same calendar year.

What Are RMD Deadlines?

Aside from the April 1 deadline available only for your first RMD, the regular deadline for your annual RMD is December 31 of each year. That means that by that date, you must withdraw the required amount, either in a lump sum or in smaller increments over the course of the year.

Calculating the Correct Amount of Your RMD

Also as discussed, the amount of your RMD is determined by tables created by the IRS based on your life expectancy, the age of your spouse, marital status, and your spouse’s age.

You’re not limited to the amount of your RMD, by the way. You can withdraw more than the RMD amount at any point. These rules are simply to insure minimum withdrawals are met. Also keep in mind that if you withdraw more than the RMD one year, it does not change the RMD requirement for the next year.

Penalties

The basic penalty, if you miss or forget to take your required minimum distribution from your 401(k), is 50% of the amount you were supposed to withdraw.

For example, let’s say you were supposed to withdraw a total of $10,500 in a certain year, but you didn’t; in that case you could potentially get hit with a 50% penalty, or $5,250. But let’s say you’ve taken withdrawals all year, but you miscalculated and only withdrew $7,300 total.

Then you would owe a 50% penalty on the difference between the amount you withdrew and the actual RMD amount: $10,500 – $7,300 = $3,200 x .50 = $1,600

How Did COVID Change RMD Rules?

The pandemic ushered in some RMD rule changes for a time, and it may be easy to get mixed up given those changes. But you should know that things are more or less back to “normal” now (as of 2021) as it relates to RMD rules, so you’ll need to plan accordingly.

As for that rule change: There was a suspension of all RMDs in 2020 owing to COVID. Here’s what happened, and what it meant for RMDs at the time:

•   First, in 2019 the SECURE Act changed the required age for RMDs from 70½ to 72, to start in 2020.

•   But when the pandemic hit in early 2020, RMDs were suspended entirely for that year under the CARES Act. So, even if you turned 72 in the year 2020 — the then-new qualifying age for RMDs that year — RMDs were waived.

Again, as of early 2021, required minimum distributions were restored. So here’s how it works now, taking into account the 2020 suspension and the new age for RMDs.

•   If you were taking RMDs regularly before the 2020 suspension, you needed to resume taking your annual RMD by December 31, 2021.

•   If you were eligible for your first RMD in 2019 and you’d planned to take your first RMD by April 2020, but didn’t because of the waiver, you should have taken that RMD by December 31, 2021.

•   If you turned 72 in 2020, and were supposed to take an RMD for the first time, then you could have had until April 1, 2022 to take that first withdrawal. (But you could have taken that first withdrawal in 2021, to avoid the tax burden of taking two withdrawals in 2022.)

RMDs When You Have Multiple Accounts

If you have multiple accounts — e.g. a 401(k) and two IRAs — you would have to calculate the RMD for each of the accounts to arrive at the total amount you’re required to withdraw that year. But you would not have to take that amount out of each account. You can decide which account is more advantageous and take your entire RMD from that account, or divide it among your accounts by taking smaller withdrawals over the course of the year.

What Other Accounts Have RMDs?

While we’re focusing on 401(k) RMDs, there are numerous other types of accounts that require them as well. As of 2023, RMD rules apply to all employer-sponsored retirement accounts, according to the IRS — a list that includes IRAs (SEP IRAs, SIMPLE IRAs, and others), but not Roth IRAs while the owner is alive (more on that in a minute).

So, if you have an employer-sponsored retirement account, know that the IRA withdrawal rules are more or less the same as the rules for a 401(k) RMD.

Allocating Your RMDs

Individuals can also decide how they want their RMD allocated. For example, some people take a proportional approach to RMD distribution. This means a person with 30% of assets in short-term bonds might choose to have 30% of their RMD come from those investments.

Deciding how to allocate an RMD gives an investor some flexibility over their finances. For example, it might be possible to manage the potential tax you’d owe by mapping out your RMDs — or other considerations.

Do Roth 401(k)s Have RMDs?

Yes, Roth 401(k) plans do have required minimum distributions, and this is an important distinction between Roth 401(k)s and Roth IRAs. Even though the funds you contribute to a Roth 401(k) are already taxed, you are still required to take RMDs, following the same life expectancy factor charts provided by the IRS for traditional 401(k)s and IRAs.

The big difference being: You don’t owe taxes on the RMDs from a Roth 401(k). You deposit after-tax dollars, and withdrawals are still tax free as they are with an ordinary Roth IRA account.

If you have a Roth IRA, however, you don’t have to take any RMDs, but if you bequeath a Roth it’s another story. Since the rules surrounding inherited IRAs can be quite complicated, it’s wise to get advice from a professional.

Can You Delay Taking an RMD From Your 401(k)?

As noted above, there is some flexibility with your first RMD, in that you can delay your first RMD until April 1 of the following year. Just remember that your second RMD would be due by December 31 of that year as well, so you’d be taking two taxable withdrawals in the same year.

Also, if you are still employed by the sponsor of your 401(k) (or other employer plan) when you turn 73, you can delay taking RMDs until you leave that job or retire.

RMD Requirements for Inherited 401(k) Accounts

Don’t assume that RMDs are only for people in or near retirement. RMDs are usually required for those who inherit 401(k)s as well. The rules here can get quite complicated, depending on whether you are the surviving spouse inheriting a 401(k), or a non-spouse. In most cases, the surviving spouse is the legal beneficiary of a 401(k) unless a waiver was signed.

Inheriting a 401(k) From Your Spouse

If you’re the spouse inheriting a 401(k), you can rollover the funds into your own existing 401(k), or you can rollover the funds into what’s known as an “inherited IRA” — the IRA account is not inherited, but it holds the inherited funds from the 401(k). You can also continue contributing to the account.

Then you would take RMDs from these accounts when you turned 73, based on the IRS tables that apply to you.

Recommended: What Is a Rollover IRA vs. a Traditional IRA?

Inheriting a 401(k) From a Non-Spouse

If you inherit a 401(k) from someone who was not your spouse, you cannot rollover the funds into your own IRA.

You would have to take RMDs starting Dec. 31 of the year after the account holder died. And you would be required to withdraw all the money from the account within five or 10 years, depending on when the account holder passed away.

The five-year rule comes into play if the person died in 2019 or before; the 10-year rule applies if they died in 2020 or later.

Other Restrictions on Inherited 401(k) Accounts

Bear in mind that the company which sponsored the 401(k) may have restrictions on how inherited funds must be handled. In some cases, you may be able to keep 401(k) funds in the account, or you might be required to withdraw all funds within a certain time period.

In addition, state laws governing the inheritance of 401(k) assets can come into play.

As such, if you’ve inherited a 401(k), it’s probably best to consult a professional who can help you sort out your individual situation.

How to Avoid RMDs on 401(k)s

While a 401(k) grows tax-free during the course of an investor’s working years, the RMDs withdrawal is taxed at their current income tax rate. One way to offset that tax liability is for an investor to consider converting a 401(k) into a Roth IRA in the years preceding mandatory RMDs. Roth IRAs are not subject to RMD rules.

What Is a Roth Conversion?

A Roth conversion can be done at any point during an investor’s life, and can be done with all of the 401(k) funds or a portion of it.

Because a 401(k) invests pre-tax dollars and a Roth IRA invests after-tax dollars, you would need to pay taxes right away on any 401(k) funds you converted to a Roth. But the good news is, upon withdrawing the money after retirement, you don’t have to pay any additional taxes on those withdrawals. And any withdrawals are at your discretion because there are no required distributions.

Paying your tax bill now rather than in the future can make sense for investors who anticipate being in a higher tax bracket during their retirement years than they are currently.

The Backdoor Roth Option

Converting a 401(k) can also be a way for high earners to take advantage of a Roth. Traditional Roth accounts have an income cap. To contribute the maximum to a Roth IRA in 2023, your modified adjusted gross income (MAGI) must be less than $138,000 if you’re single, less than $228,000 if you’re married filing jointly, with phaseouts if your income is higher. But those income rules don’t apply to Roth conversions (thus they’re sometimes called the “backdoor Roth” option).

Once the conversion occurs and a Roth IRA account is opened, an investor needs to follow Roth rules: In general, withdrawals can be taken after an account owner has had the account for five years and the owner is older than 59 ½, barring outside circumstances such as death, disability, or first home purchase.

What Should an Investor Do With Their RMDs?

How you use your RMD funds depends on your financial goals. Fortunately, there are no requirements around how you spend or invest these funds (with the possible exception that you cannot take an RMD and redeposit it in the same account).

•   Some people may use their RMDs for living expenses in their retirement years. If you plan to use your RMD for income, it’s also smart to consider the tax consequences of that choice in light of other income sources like Social Security.

•   Other people may use their 401(k) RMDs to fund a brokerage account and continue investing. While you can’t take an RMD and redeposit it, it’s possible to directly transfer your RMD into a taxable account. You will still owe taxes on the RMD, but you could stay invested in the securities in the previous portfolio.

Reinvesting RMDs might provide a growth vehicle for retirement income. For example, some investors may look to securities that provide a dividend, so they can create cash flow as well as maintain investments.

•   Investors also may use part of their RMD to donate to charity. If the funds are directly transferred from the IRA to the charity (instead of writing out a check yourself), the donation will be excluded from taxable income.

While there is no right way to manage RMDs, coming up with a plan can help insure that your money continues to work for you, long after it’s out of your original 401(k) account.

The Takeaway

Investors facing required minimum distributions from their 401(k) accounts may want to fully understand what the law requires, figure out a game plan, and act accordingly. While there are a lot of things to consider and rules to reference, ignoring 401(k) RMDs can result in sizable penalties.

Even if you’re not quite at the age to take RMDs, you may want to think ahead so that you have a plan for withdrawing your assets that makes sense for you and your loved ones. It can help to walk through the many different requirements and options you have as an account holder, or if you think you might inherit a 401(k).

As always, coming up with a financial plan depends on knowing one’s options and exploring next steps to find the best fit for your money. If you’re opening a retirement account such as an IRA or Roth IRA, you can do so at a brokerage, bank, mutual fund house, or other financial services company, like SoFi Invest®.

Help grow your nest egg with a SoFi IRA.

FAQ

Is my 401(k) subject to RMDs?

Yes, with very few exceptions, 401(k)s are subject to RMDs after its owner reaches age 73, as of 2023. What those RMDs are, exactly, varies depending on several factors.

How to calculate your RMD for your 401(k)?

It’s not an easy calculation, but RMDs are basically calculated by dividing the owner’s account balance by their life expectancy factor, which is determined by the IRS. That will give you the amount you must withdraw each year, or face a penalty.

Can you avoid an RMD on your 401(k)?

You can, if you’re willing to convert your traditional 401(k) account to a Roth IRA. Roth IRAs do not require RMDs, but you will owe taxes on the funds you convert.


SoFi Invest®
The information provided is not meant to provide investment or financial advice. Also, past performance is no guarantee of future results.
Investment decisions should be based on an individual’s specific financial needs, goals, and risk profile. SoFi can’t guarantee future financial performance. Advisory services offered through SoFi Wealth, LLC. SoFi Securities, LLC, member FINRA / SIPC . SoFi Invest refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). Individual customer accounts may be subject to the terms applicable to one or more of the platforms below.
1) Automated Investing—The Automated Investing platform is owned by SoFi Wealth LLC, an SEC registered investment advisor (“Sofi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC, an affiliated SEC registered broker dealer and member FINRA/SIPC, (“Sofi Securities).
2) Active Investing—The Active Investing platform is owned by SoFi Securities LLC. Clearing and custody of all securities are provided by APEX Clearing Corporation.
3) Cryptocurrency is offered by SoFi Digital Assets, LLC, a FinCEN registered Money Service Business.
For additional disclosures related to the SoFi Invest platforms described above, including state licensure of Sofi Digital Assets, LLC, please visit www.sofi.com/legal. Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform. Information related to lending products contained herein should not be construed as an offer or prequalification for any loan product offered by SoFi Bank, N.A.
Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
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What Is the Age for Early Retirement for Social Security?

Throughout your working career, you pay employment taxes that help fund Social Security, which provides income when you retire. In 2023, nearly 67 million people will receive Social Security benefits, collectively totaling more than $1 trillion.

There are strict rules about when you can claim Social Security benefits. You can start collecting retirement benefits as early as age 62, but if you can delay claiming your benefits, your monthly benefit amount can continue growing until you reach age 70.

Learn more about Social Security benefits, early retirement age, and the advantages and disadvantages of filing for your benefits early and late.

What Are Social Security Benefits?

Social Security is a social insurance program created in 1935 to pay workers an income once they retired at age 65 or older. When people talk about Social Security benefits, they’re referring to a monthly payment that replaces a portion of a worker’s pre-retirement income.

The amount you receive depends on how much you earned and paid in Social Security taxes during the 35 highest-earning years of your career. Generally speaking, the higher your income, the bigger your monthly check will be — up to a point. Also important is the age at which you claim benefits. Typically, the later you receive benefits, the higher your monthly check will be.

Note that retirees aren’t the only ones who are eligible for Social Security benefits. People with qualifying disabilities, surviving spouses of workers who have died, and dependent beneficiaries may also qualify for benefits.

Recommended: When Will Social Security Run Out?

At What Age Can You Collect Social Security?

When the Social Security program began, the full retirement age (FRA) was 65, and that’s still what many in the U.S. think of as the average retirement age. However, as life expectancy in the U.S. has increased, the Social Security Administration (SSA) has adjusted the FRA accordingly.

The chart below illustrates FRA by year of birth.

If You Were Born In Your Full Retirement Age Is
1943-1954 66
1955 66 and 2 months
1956 66 and 4 months
1957 66 and 6 months
1958 66 and 8 months
1959 66 and 10 months
1960 or later 67

Recommended: At What Age Should You File for Social Security?

What Is the Early Retirement Age for Social Security?

You can choose to claim retirement benefits as early as age 62. However, SSA will reduce your benefit by about 0.5% for every month you receive benefits before your FRA. For example, if your full retirement age is 67 and you file for Social Security benefits when you’re 62, you’d receive around 70% of your benefit.

On the other hand, if you wait to claim benefits after your FRA, you’ll accrue delayed retirement credits. This increases your benefit a certain percentage for every month you delay after your FRA. For example, if your full retirement age is 67 and you delay receiving benefits until age 70, you’ll get 124% of your monthly benefits. Note that the benefit increase stops when you turn 70.

Recommended: When Can I Retire? This Formula Will Help You Know

Can You Claim Social Security While You’re Still Working?

When you claim your Social Security benefits, the SSA considers you retired. However, you can continue working after retirement and receiving benefits at the same time, though they may be limited.

If you’re younger than FRA for the entire year, the SSA will deduct $1 from your payment for every $2 you earn above an annual limit. In 2023, that limit is $21,240. In the year you reach full retirement age, the SSA will begin deducting $1 for every $3 you make above a different earnings limit — $56,520 in 2023.

No matter their work history, your spouse has the option to claim Social Security benefits based on your work record. That benefit can be up to 50% of your primary insurance amount, which is the benefit you’d receive at FRA. Your spouse can begin receiving spousal benefits at age 62, but they will receive a reduced benefit.

Pros and Cons of Claiming Social Security Early

The main advantage of filing for Social Security early is that you’ll have access to retirement funds sooner. This can be a boon to individuals who need extra money to get by each month. To help you maximize every last dollar, consider using a spending app to create budgets, track spending, and monitor bills.

The main disadvantage of filing early is that you may permanently reduce your monthly benefit amount. This could be a factor to keep in mind as you determine whether you’re on track for retirement.

So how do you decide when to file for your benefits? Consider your “break-even point.” This is the age at which receiving a delayed higher benefit outweighs claiming benefits earlier.

Here’s an example of how that works. Let’s say your FRA is 67 and your annual benefit is $24,000. If you claim your benefit at age 62, your benefit drops to $16,800 a year. If you delay until age 70, your benefit would be $29,760 a year.

By adding up each year’s worth of benefits and comparing them across different potential retirement ages, you find your break-even point. So in that last example, claiming your benefit at FRA breaks even with early filing at age 78. If you expect to live until this age or longer, you may consider filing for Social Security at full retirement age. Delaying until age 70 breaks even with claiming at FRA at age 82. So if you expect to live until 82 or longer, you may consider delaying your benefits.

Recommended: How Can I Retire Early?

The Takeaway

Social Security is an important source of guaranteed income during retirement and can help ensure you can cover recurring expenses like housing payments and utilities. Your monthly payment amount is determined by how much you’ve earned during your working career and the age at which you claim Social Security benefits. You’re eligible to receive your full benefits when you reach full retirement age (FRA). If you file before then, the monthly payment will be reduced. If you file later, your monthly payment can increase, up to a point. Consider your short- and long-term financial needs carefully before deciding when to claim Social Security.

Whether you’re planning to continue working past your FRA or are preparing for retirement, using a money tracker app can help you manage your overall spending and saving. The SoFi Insights app connects all of your accounts in one convenient dashboard. From there, you can see all of your balances, spending breakdowns, and credit score monitoring, plus you can get other valuable financial insights.

Stay up to date on your finances by seeing exactly how your money comes and goes.

FAQ

Can I take Social Security at age 55?

You cannot claim Social Security benefits at age 55. The earliest you can file for benefits is age 62.

What happens to my Social Security if I retire at 55?

If you retire at 55, you will have to wait seven years, until age 62, before you are eligible to claim early Social Security benefits. Retiring early may also affect the size of your benefit if you are leaving work in your top-earning years.

What is the average Social Security benefit at age 62?

The average monthly Social Security retirement benefit in 2023 is about $1,827 for those filing at full retirement age. Filing early at age 62 would reduce that benefit by 30% to $1,278.90.


Photo credit: iStock/svetikd

SoFi’s Insights tool offers users the ability to connect both in-house accounts and external accounts using Plaid, Inc’s service. When you use the service to connect an account, you authorize SoFi to obtain account information from any external accounts as set forth in SoFi’s Terms of Use. SoFi assumes no responsibility for the timeliness, accuracy, deletion, non-delivery or failure to store any user data, loss of user data, communications, or personalization settings. You shall confirm the accuracy of Plaid data through sources independent of SoFi. The credit score provided to you is a Vantage Score® based on TransUnion™ (the “Processing Agent”) data.
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
Non affiliation: SoFi isn’t affiliated with any of the companies highlighted in this article.
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What Is a Good 401(k) Expense Ratio?

A 401(k) plan doesn’t have an expense ratio, per se, but the overall cost of the plan includes the expense ratios of the funds in an investor’s account, as well as other charges like plan administration fees and the like.

So what is a good 401(k) expense ratio? Ideally, the lower the fees for the plan the better, including the expense ratios of the investments in the account, because fees can lower portfolio growth substantially over time.

While investors don’t have control over the basic costs of their 401(k) plan, they can opt to choose investments with lower expense ratios, e.g. under 0.50% if possible.

What Are Reasonable Fees for a 401(k)?

To determine the amount you’re paying for a 401(k) plan, divide the total plan cost (usually available on your 401(k) statement) by your total investment.

Expense ratios can vary among plans for a variety of reasons, including how the 401(k) account is managed, the administrative fees, the record-keeping costs, and so on. While investors don’t have any say over the built-in costs of the 401(k) plan — that’s set by the plan administrator and/or your employer — investors can manage their own investment costs.

Choosing Lower-Cost Funds

In passively managed funds (where a portfolio mirrors a market index like the S&P 500), the expense ratio is typically lower as compared to actively managed funds, which might charge between 0.5% and 1.0% or more. Actively managed funds have a fund manager who employs different buying and selling strategies. Generally, this is because more work is being done on the manager’s part in an active strategy vs. a passive strategy.

Note that active investing can refer to individual investors, but the philosophy of making trades to exceed market returns also drives actively managed funds.

Passive strategies generally have expense ratios under 0.50%. Exchange-traded funds (ETFs) usually follow a passive strategy and can have expense ratios under 0.25%.

Why Fees Matter

Over time, just one or even half a percentage point could potentially make an impact on a retirement account. That impact could in turn mean the difference between retiring when planned, vs. working a few more years until the overall investment grows. A lower expense ratio could help an investor maximize their 401(k).

For example, a well-known Government Accountability Office analysis from 2006 found that someone who invests $20,000 every year for 20 years in a 401(k) plan that costs 1.5% per year to operate is likely to end up with 17% less than someone whose plan costs just 0.50%. The analysis concluded that after 20 years, that half a percentage point meant the difference of more than $10,000. Similar studies on the impact of fees have found similar results.

Until relatively recently 401(k) expense ratio information wasn’t public, and even now it can be somewhat difficult to locate.

How to Reduce Your Expense Ratio

Before an investor can attempt to reduce their expense ratio, they need to be familiar with what it is.

Until relatively recently 401(k) expense ratio information was not public, and even now it can be somewhat difficult to locate. In 2007, the Securities and Exchange Commission (SEC) approved an amendment requiring the disclosure of these fees and expenses in mutual fund performance and sales materials.

Today, there are a few ways to get the information — and take action:

•   Read the fine print. Look closely at 401(k) participant fee disclosure notices, which participants should receive at least annually with any plan. Or look for the current information in a funder’s prospectus on their website. Building on the 2007 amendment, the DOL introduced a rule in 2012 to improve transparency around the fees and expenses to workers in 401(k) retirement plans.

•   Ask outright. Investors seeking more information might also choose to call their fund’s client services number directly to get the most up-to-date information on plan costs. Investors who work with a financial advisor can also ask their advisor for this information, as well as their opinions on these expenses.

◦   Evaluate your funds. It can also be helpful to look at the funds being offered by an employer, provider, or broker to see if there is a similar fund that comes with lower expenses. Investors may be able to find the investments they want at a cheaper price, even within their current 401(k) plan.

For investors whose 401(k) plan is not through a current full-time employer — a common situation when people change jobs — they may want to consider a rollover IRA in order to pay lower fees and gain access to a wider array of investments.

The Takeaway

There’s no magic number that indicates a 401(k) expense ratio is too high or just right, and all plans are different. But if you take into account the cost of your investments in addition to the plan itself, you shouldn’t be paying much more than about 1.0% to 1.50%, all in.

Under federal law, employers have a fiduciary duty to offer reasonably priced options and to monitor the quality of the 401(k) plan they offer. The more an investor knows about their current plan, the better equipped they are to make compelling arguments for how to improve their plan.

If you’re thinking about investing for retirement, or doing a rollover of an old 401(k), you may want to consider all your options. It’s easy to get started with SoFi invest. You can invest in stocks, exchange-traded funds (ETFs), open an IRA or do a rollover, and more. SoFi doesn’t charge commission, but other fees apply (full fee disclosure here), and members can access complimentary financial advice from a professional.

Easily manage your retirement savings with a SoFi IRA.


SoFi Invest®
The information provided is not meant to provide investment or financial advice. Also, past performance is no guarantee of future results.
Investment decisions should be based on an individual’s specific financial needs, goals, and risk profile. SoFi can’t guarantee future financial performance. Advisory services offered through SoFi Wealth, LLC. SoFi Securities, LLC, member FINRA / SIPC . SoFi Invest refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). Individual customer accounts may be subject to the terms applicable to one or more of the platforms below.
1) Automated Investing—The Automated Investing platform is owned by SoFi Wealth LLC, an SEC registered investment advisor (“Sofi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC, an affiliated SEC registered broker dealer and member FINRA/SIPC, (“Sofi Securities).
2) Active Investing—The Active Investing platform is owned by SoFi Securities LLC. Clearing and custody of all securities are provided by APEX Clearing Corporation.
3) Cryptocurrency is offered by SoFi Digital Assets, LLC, a FinCEN registered Money Service Business.
For additional disclosures related to the SoFi Invest platforms described above, including state licensure of Sofi Digital Assets, LLC, please visit www.sofi.com/legal. Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform. Information related to lending products contained herein should not be construed as an offer or prequalification for any loan product offered by SoFi Bank, N.A.
Fund Fees
If you invest in Exchange Traded Funds (ETFs) through SoFi Invest (either by buying them yourself or via investing in SoFi Invest’s automated investments, formerly SoFi Wealth), these funds will have their own management fees. These fees are not paid directly by you, but rather by the fund itself. these fees do reduce the fund’s returns. Check out each fund’s prospectus for details. SoFi Invest does not receive sales commissions, 12b-1 fees, or other fees from ETFs for investing such funds on behalf of advisory clients, though if SoFi Invest creates its own funds, it could earn management fees there.

Exchange Traded Funds (ETFs): Investors should carefully consider the information contained in the prospectus, which contains the Fund’s investment objectives, risks, charges, expenses, and other relevant information. You may obtain a prospectus from the Fund company’s website or by email customer service at [email protected] Please read the prospectus carefully prior to investing. Shares of ETFs must be bought and sold at market price, which can vary significantly from the Fund’s net asset value (NAV). Investment returns are subject to market volatility and shares may be worth more or less their original value when redeemed. The diversification of an ETF will not protect against loss. An ETF may not achieve its stated investment objective. Rebalancing and other activities within the fund may be subject to tax consequences.
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
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