Rock and Rollover

As the job market improves, more workers are leaving old jobs for new ones. According to the Labor Department’s Job Opening and Labor Turnover survey (JOLTS) the number of voluntary quits increased by 15 percent at the end of May. Upon departure from your old employer, one of the big decisions to make is what to do with your retirement plan. There are generally three choices: leave the money in the old plan; rollover the funds from the old plan into the future employer’s plan; or rollover the funds into a IRA account at a brokerage or mutual fund firm. To determine which option is best, you have to do a little homework. The first step is to figure out the fees you are paying in your current plan and compare them with the details of the new plan. While there has been more publicity about the high costs of investing inside of employer-sponsored plans, including last year’s terrific PBS episode of Frontline called "The Retirement Gamble", many people still don’t realize that fees among plans and the specific investments within the plans, can vary dramatically.

If the old plan offers plenty of choices at a reasonable expense level, and the new plan is an expensive one, you may be better off staying put. But increasingly, more Americans who are retiring or moving onto new jobs are transferring the assets from old plans into individual retirement accounts (IRAs). According to financial-services research firm Cerulli Associates, investors moved $321 billion from employer-sponsored plans to individual retirement accounts in 2012, up about 60 percent in the past decade.

Some of these investors want the freedom to control where they put their money and want to increase the number of asset class options inside their retirement accounts. However, many have fallen prey to the financial services industry, which has waged a competitive war for retirement dollars that aims to retain and capture retirement assets. Some firms offer cash incentives to roll over assets, while others offer a variety of “bonuses” that can seem too juicy to turn down. As a result, some investors are being unknowingly lured into products that contain higher fees than the plain vanilla index fund found in their old employer’s plan.

Because the government oversees and enforces most employer-based retirement plans there is a keen interest in how rollovers are handled. Specifically, the feds are concerned that the advice to move assets from an employer plan into a new product inside an IRA, may be "suitable" for investors, it may not but not in their best interests.

The distinction brings up the “F-Word”, or the fiduciary standard, which requires financial professionals to act in the best interests of their clients. You may think that any broker or insurance agent is obligated to do so, but they are generally held to a much looser standard, called “suitability.” In other words, the product or advice they are providing needs only to be suitable for you, rather than in your best interests.

Both the Department of Labor Securities and Exchange Commission (SEC) have been wrestling with whether to extend the fiduciary standard of care to any financial professional that provides personalized investment advice to retail customers, including those individuals and firms who make retirement plan recommendations. Last year the U.S. Government Accountability Office found that financial companies that administer 401(k) plans misled GAO investigators posing as employees leaving their jobs, telling them they would almost always be better off if they shifted to IRAs that the companies also managed.

Not surprisingly, the Securities Industry and Financial Markets Association (SIFMA), the trade association that lobbies on behalf of the financial services industry, has opposed imposing regulation that would be too strict, because it would “limit consumer choice”. The more cynical will note that the fiduciary standard would put a big dent into commissions generated by firms and their salespeople, especially those who recommend fee-rich products inside rollover accounts.

Before you transfer assets from retirement plans into IRAs, make sure that you understand the costs involved. You may find that the boring old 401(k) plan is the more efficient – and less complicated – option.

401K Q&A

When AOL CEO Tim Armstrong made a splash recently about changing (and then not-changing) the 401(k) corporate matching policy, the focus was on his rationale for the new policy. He blamed costly “distressed births” of two AOL employees ($1,000,000 each) and an additional  $7.5 million attributable to Obamacare, as the catalysts for the shift in the company’s match to a one-time end-of-year match, from a per-pay period match. Now that Armstrong has apologized and restored the policy, it’s a good time to review a few 401(k) basics. As Ron Lieber noted in his NYT column, “what was mostly lost in the discussion was just how much it would cost employees if every employer tried to do what AOL did. The answer? Close to $50,000 in today’s dollars by the time they retired.”

The reason is that over the long-term, stocks tend to rise. So if a company waits until the end of the year to match, in most years, participants lose out on appreciation. Of course, there are always a few rotten years (2008 comes to mind) when participants would be happy not to receive the match until the end of the year. But those loser years are the minority, which is why AOL employees rebelled and ultimately forced Armstrong to recant.

But there’s a larger problem beyond the matching melee. As highlighted in last year’s excellent Frontline documentary "The Retirement Gamble," one in three Americans has no retirement savings at all; one in two say that they can't save enough; and the demographics of an aging population are making matters worse.

While I could lament the transition from company-funded pension plans to 401(k) plans (suffice it to say that it was not in the worker’s best interest), the AOL affair is a good reminder to those who are fortunate enough to have a 401(k), to make the most of them.

Here are a few of the most frequent questions that I field about employer-sponsored retirement accounts.

Should I contribute to 401K or pay down student loans? If the employer provides a match, I suggest making a retirement contribution that will allow you to capture the match. Every other available dollar should be used to aggressively pay down the student loans.

Should I buy company stock in my 401 (k)? Limit your company stock exposure to 5 percent of your holdings. Sure, the stock may be awesome now, but do you really need to risk your retirement on the company’s performance? Since many companies match in stock, it may be helpful to use the auto-rebalance feature that many plans offer to diversify.

I lost my job – should I use retirement funds to pay down debt, even if I am under 59 1/2? Last year, 35 percent of all participants who left their jobs cashed out their accounts, according to Fidelity Investments. More worrying, cash-outs are most prevalent among younger workers, the ones who would most benefit from keeping the money in a tax-deferred retirement account. Among workers from 20 to 39 years of age who left their jobs last year, 41 percent cashed out their 401(k) balances.

While it is tempting to tap retirement funds to pay down debt, the math is lousy. Fidelity says that the average balance of a 401(k) account that was cashed out last year was close to $16,000. Of that, the typical person pocketed just $11,200 assuming 20 percent was withheld for taxes and the 10 percent penalty was assessed. Additionally, the saver no longer gets the compounded growth the savings would have had in a retirement account.

Now that I am over 59 ½ and retired, should I use my 401(k) to pay down my mortgage? This is a trick question, because it depends on a number of variables, like current income, savings, tax rates, the number of years remaining on your mortgage, your mortgage interest, among many other factors. I would be loath to have someone pay down a mortgage, if it left him or her with a deeply depleted nest egg.