When you leave a job, you need to decide: Should your 401(k) leave with you?
A quirk of retirement plans is that once you move on, your 401(k) becomes a bit of a hot potato. You’ll want to handle it carefully.
The first task is narrowing which options are open to you. Those might include:
Once you figure out what you can do with that old account, we’re on to what you should do.
“There is no right or wrong answer on where to keep the money growing for retirement,” says Jeffrey Levine, a certified financial planner and CEO of BluePrint Wealth Alliance. “You need to understand your options and decide what is best for you.”
Here’s how to work through your decision tree:
The golden rule of investing is the less you pay in fees, the more of your money that stays working (compounding) for you. If your old plan has high fees, moving to a lower-cost retirement plan is going to pay off big time.
First, some nitty gritty: Every 401(k) has two layers of fees to look for in your plan documents. There’s an investment fee, called the annual expense ratio, that is shaved off the performance of each fund in your account. And there’s an administrative fee.
The average combined all-in fee is around 0.40 percent, according to a survey conducted by the Investment Company Institute and BrightScope. But there’s a wide range. Savers in plans from small employers paid an average of 1.13 percent and savers in plans from big employers paid 0.24 percent.
Before you shrug at what looks like small differences, spending a minute or two with a fee comparison calculator can be a valuable eye opener. A $10,000 account that stays in a 401(k) that costs 1.13 percent a year will grow to about $55,000 in 30 years, assuming a 7 percent annualized return. In the lower-fee plan it will grow to more than $71,000.
“If the fees on a new employer’s plan are head and shoulders above your old plan, it makes sense to roll the money over to the new plan,” says Garrett Prom, a certified financial planner in Austin, Texas.
Now run the cost comparison again, looking at what you might pay if you moved your old 401(k) to an IRA—especially if you’re not allowed to bring your old 401(k) with you into your new plan, or the new plan has meh fees.
And if you discovered that your old employer already moved your account to an IRA (which can happen if your account balance was less than $5,000), you should compare the costs of that IRA with what you can pay if you open your own IRA account at a discount brokerage.
In a rare moment of the little guy getting a great deal, major financial firms have been slashing the expense ratios on index mutual funds and exchange traded funds; there are plenty that charge less than 0.10 percent. If you’re paying north of 0.30 percent or so, you might want to consider a rollover and invest your money in low-cost index funds and ETFs.
If you’ve come to rely on the automatic allocation and rebalancing in the target date retirement fund in your 401(k), you can do the same with an IRA—on the cheap. Both Vanguard and Fidelity offer index-fund target-date funds that charge an annual fee below 0.15 percent.
Going the IRA route can become more compelling as your career progresses. With the average job tenure these days around five years, you could have five or more 401(k)s at some point. That can be a logistical nightmare. One option is to see if you can roll them all over into your current employer’s plan—assuming it is a low-fee plan. But if that’s a no-go, an IRA can solve your cat-herding challenge.
“Consolidating all your old 401(k)s in one IRA can make it much easier to keep track of your retirement savings and maintain your long-term allocation strategy,” says Peter Lazaroff, co-chief investment officer at Plancorp, a St. Louis financial management firm.
All 401(k)s must be run for the benefit of the participants, with employers evaluating and monitoring the funds offered. The technical term is that 401(k) plans must act as fiduciaries. There is no fiduciary standard with IRAs, and not every investment advisor acts as a fiduciary. “You’re getting a level of professional oversight with a 401(k),” says Lazaroff.
And though this should be filed under “please God, let’s hope this doesn’t happen,” money inside a 401(k) is protected if you are sued or file for bankruptcy. There are limits on how much of your IRA accounts are protected from creditors—although that limit is pretty high, at a current $1.283 million.
Factor in the value of that peace of mind when weighing your options.
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