Over the past 20+ years, the American worker has been told that the retirement vehicle of the future has arrived. It is the mighty 401k. Forget your pensions of the past, you should grab your retirement by the horns and manage the money yourself.
Now don’t get me wrong, 401k’s are great vehicles to help you save for retirement. If your place of work has a 401k, you should be participating at least up to whatever level your company matches your contribution.
But I was reading an article today about Generation-X (people born between 1965 and 1981) that stated that Gen-Xers on average have 3 different 401k plans because they never move the assets when they change employment. This is a shame. I can only guess that most investors don’t understand the high fee structure that is built into the 401k plan structure.
The 401k plan typically gives an investor between 8 and 14 investment options in order for them to create a diversified portfolio for their retirement planning. These investment options run the gamut from aggressive stock funds to conservative bond funds. This is all well and good, but the investment funds selected by the 401k manager are not necessarily the most cost-effective funds for accomplishing this diversification. The arrangements between the 401k manager and the individual mutual fund managers may make it advantageous to the 401k manager to include funds with higher expense ratios. Every 401k plan is different, so you will need to perform your own investigation to determine the funds in your plan and their relationship with your 401k manager.
On top of the fees associated with the individual fund that you select, there is another insidious fee called the record-keeping fee. This fee currently averages between 1.27 and 1.5% (depending on which source you believe). This fee is collected by your 401k manager in return for him keeping track of all of the paperwork required to run a 401k plan. This fee is deducted from funds in your account as long as the funds are in the 401k plan. You can not avoid them by parking your 401k funds in “cash”. This is a drain on your funds just for keeping them in a 401k plan.
Why would people keep their money in their old 401k plans when, once they leave their place of employment? When you leave a job, you have the right to move your 401k. Moving your 401k does not mean that you have to pay taxes on the money. You can rollover your 401k into an IRA at an institution of your choice (Fidelity, TDAmeritrade, etc). Once there, your funds will be consolidated in a central location without a record keeping fee and with lower cost investment alternatives. This allows you, the individual investor, to make your own decisions about where to invest your money, or hire a financial professional to do it for you. But the bottom line is that with the money outside of the 401k plan, you have control over your costs with a large variety of investment decisions to choose from.