Money expert Clark Howard recommends target date funds more often than any other investment. Pick the fund with the year closest to when you plan to retire, put your retirement money into it and let the fund handle the rest. That part is well covered.
But target date funds have some quirks that surprise even people who have owned them for years. A few of these quirks can cost you real money if you get them wrong. Here are six things you may not know.
1. They Belong in Retirement Accounts Only
This is the big one. Target date funds are designed for tax-advantaged accounts like a 401(k), traditional IRA or Roth IRA. They are a poor fit for a regular taxable brokerage account.
“With target date funds you should be investing inside a traditional IRA, Roth IRA, 401(k),” Clark says. “That would also include Simplified Employee Pensions (SEPs) and any other account where there are no tax implications to the mix of investments being changed over time.”
The reason comes down to how these funds work. A target date fund constantly sells stocks and buys bonds as it moves toward its target year. Inside a retirement account, all that trading is invisible to the IRS. Inside a taxable account, every one of those sales can generate capital gains that get passed on to you as a tax bill, even if you never sold a single share yourself.
“The very nature of a target date fund is that as you get closer to that target, they change that mix of investing,” Clark says. “So it keeps generating taxes for you if you own it in a regular investment account.”
If you think the risk sounds theoretical, consider what happened at Vanguard. In late 2020, Vanguard lowered the minimum for the institutional version of its target retirement funds, and large retirement plans rushed to switch. Those redemptions forced the regular investor funds to sell holdings, which triggered capital gains distributions dozens of times larger than normal. People who held the funds in 401(k)s and IRAs were fine. People who held the exact same funds in taxable accounts got surprise tax bills, some reportedly in the tens of thousands of dollars. Vanguard later agreed to pay more than $100 million to settle SEC charges over the episode.
If you want a simple all-in-one fund in a taxable account, Clark suggests a total stock market index fund or ETF or a balanced index fund instead.
2. Nothing Dramatic Happens When You Reach the Target Date
A common worry: “My fund says 2030. What happens in 2030? Does it all get sold? Does it go to cash?”
No. The target date is not an expiration date. The fund keeps operating, you keep owning it, and the portfolio keeps holding stocks.
“When we hit next year, it doesn’t suddenly all go into bunker mode. There will continue to be a need in that fund for years to come to have meaningful exposure to the stock market,” Clark says. “It goes into a retiree mode… And in retiree mode, the thinking is the portfolio has to be more defensive. So that in down years for the market, you go down a lot less than the market goes down. And in up years, you’ll go up less.”
The gradual shift from stocks to bonds is called a glide path, and it works more like a dimmer switch than an on-off switch. Even after the target year arrives, most funds keep 30% to 40% of the portfolio in stocks so your money can keep growing through what may be a 25- or 30-year retirement.
One housekeeping note: Years after the target date passes, many fund companies eventually fold the fund into their retirement income fund, which holds the final, most conservative mix. Your money moves over automatically. There is nothing you need to do, and there are no tax consequences inside a retirement account.
3. Two Funds With the Same Year Can Be Very Different
A 2045 fund at one company and a 2045 fund at another company can hold meaningfully different amounts of stock, both today and after the target date arrives.
Part of the difference is the “to” versus “through” design.
- A “to” fund reaches its most conservative allocation right at the target year.
- A “through” fund keeps reducing risk for years afterward, which means it holds more stock at the target date itself.
Neither approach is wrong, but they behave differently in a bad market right around your retirement.
The bigger trap is that a single company can sell two funds with nearly identical names and very different costs. Fidelity’s Freedom 2045 Fund charges 0.68% per year, while the Fidelity Freedom Index 2045 Fund charges 0.12%. Same company, same year, and in many cases the cheaper index version has performed better. Schwab similarly offers both Target Funds and Target Index Funds.
Clark’s rule is simple: Buy the version with “index” in the name.
4. You Don’t Have To Pick the Year You Actually Retire
The year in the fund name is a suggestion, not a contract. If you’re comfortable with more risk, you can pick a fund dated five or ten years past your planned retirement, and the fund will hold more stocks for longer. If a market drop close to retirement would keep you up at night, pick an earlier year and the fund will get conservative sooner.
Choosing a later date is also a reasonable move if you plan to work part-time in retirement or expect to leave much of the money untouched for years.
5. Pairing It With Other Funds Defeats the Purpose
A target date fund is designed to be your entire retirement portfolio. Its managers set a precise mix of U.S. stocks, international stocks and bonds for your stage of life. When you add an S&P 500 fund “for extra growth” or a bond fund “for extra safety” alongside it, you override that mix, usually without realizing by how much.
The same goes for holding several target date funds with different years. Clark has been asked whether laddering funds, say a 2040, 2050 and 2060, makes sense the way laddering CDs does. His answer is no. Pick one fund, put everything in it and let it do its job.
6. You May Already Own One Without Choosing It
Target date funds are the default investment in most workplace retirement plans. If you enrolled in your 401(k) and never made an investment election, there’s a good chance your money is sitting in the target date fund matched to the year you turn 65.
For most people, that default is a good outcome. But it’s worth logging in to confirm two things:
- Check which target year the plan assigned you, since it’s based on your birth date and a retirement age you may not agree with.
- Check the expense ratio. If your plan offers both an actively managed and an index version, the difference in cost over a career is substantial.
Final Thoughts
Target date funds remain one of the simplest ways to invest for retirement. You pick a fund based on your timeline, keep it in a tax-advantaged account, and let it automatically shift from growth to conservatism over time. For most investors, that level of simplicity is exactly the point.
But “simple” doesn’t mean you can ignore the details entirely. The account you use, the share class you choose, and whether you accidentally mix in other investments can all affect how well the strategy works in practice. Most issues don’t come from the fund itself — they come from how it’s used.
When used as intended in a 401(k) or IRA, a low-cost index target date fund remains one of the most effective, low-maintenance paths to long-term retirement investing. The key is making sure you’ve set it up cleanly so the fund can do exactly what it was designed to do — on autopilot.
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