My old 401(k): Here’s what you really need to know

You have an old 401(k) (or other company retirement plan) your former employer is telling you to do something with or you feel is hanging out there aimlessly. You need to “take care of it” one way or another.

It’s the #1 reason people reach out to me as a financial planner. It’s also the exact situation financial advisors seek to prey upon because it’s the easiest way to gather assets on which to make a fee or commission.

That leaves you, holder of the old 401(k), in a tough spot. You want to get closure on this account, but you don’t know how, and you don’t know who to trust to help you figure it out. There is no clear path ahead. It’s a crummy feeling.

In 5 minutes, let’s clear your path so you’ll know how to handle your old 401(k).

First, you don’t have to do anything with the old 401(k). You can leave it there if you’d like.

Is that the best decision? It depends. Worst case scenario is the plan provider will boot you out, send you a check for the proceeds minus tax and penalty withholdings. Those withholdings won’t be a lot in dollar terms, because providers usually only boot you out of the plan if your balance is small (usually $5,000 or less).

So what would it look like just to leave it where it is? Why would you do that?

Old 401(k)s may afford you benefits you can’t find anywhere else. There are a few benefits to look out for. First, do you have company stock in this plan? If yes, you have to consider your long term tax plan. The retirement plan structure gives you options with how to treat that stock in the most tax efficient manner possible. How that works is beyond the scope of this post, so get professional help if you own a lot of company stock (more than 5% of your net worth).

Second, does your old 401(k) offer you access to investments no other plan or provider can? Some company plans have negotiated some sweet investment options, most commonly a stable value or guaranteed fund that pays a more robust interest rate than relative alternatives.

Finally, by moving the old 401(k), will it be subjected to new expenses and fees? As mentioned earlier, the financial advising sales force is always interested in folks moving old 401(k)s so they can make a sale.

But that doesn’t mean leaving it is your best choice because…

Your old 401(k) may be awful. Awful would be defined by three factors: high costs, poor investment selection, and shabby service/user interface.

High Costs

How do you know if the costs of your plan are high? First, know what you’re looking for. The costs most commonly assessed on you are fund expenses (expressed as an expense ratio), advisory fees, and recordkeeping fees.

Next, login into your old 401(k)’s online account access (if you don’t know how, reach out to the HR person in your old company), then within the website, find the Summary Plan Description. It should be available to you in PDF format.

Once you’ve opened the PDF, do a CTRL+F (or COMMAND+F) to pull up the document search and try using any of the following terms: fees, expense(s), commission, charges. That should lead you to the content you’re looking for to determine what costs your old 401(k) levies. If it doesn’t, keep searching the website, the information is likely there. Still no luck? Call the customer service # to get help. Information on costs is too important to remain naive.

Crummy Investments

How do you know if your plan has poor investment selections? This is tough, because everyone’s investment preferences are different depending on their perceptions, experience, beliefs,  and risk tolerance. Very generally and simply speaking, I’m looking for low cost, highly diversified options in stocks and bonds. That is enough for me to have confidence an investor can be successful.

No engagement

Finally, you’ll know if your old 401(k) has shabby service or a complex user interface by answering this one question: is it difficult for you to access, get information on, and make changes to your retirement plan? If you’ve tried to work with your old 401(k) and you find any of that to be true, then you need to simplify by moving the account.

If there is a high risk your old 401(k) will fall into your “out of sight, out of mind” mental category, neglect could wage a high cost, and you should move it. Change happens in life and these assets may need altered in response. But you’ll never know if the old plan is basically abandoned as an afterthought.

There lies the single most powerful factor in deciding what to do with your old 401k. It needs to be in a place where it can empower your decisions today. However many assets you have in the account, they should be aiding in your pursuit of the most important matters in life, whether now or in the future.

Alright, I need to move my old 401(k), what do I do?

Let’s say for any of the reasons above, you’ve decided you need to rollover (the technical term for moving your account) your old 401(k). You’ve got a couple more questions to ask yourself: How capable are you to find a solution without paying for help? And if you’re not capable, where’s the best place to turn?

If you have financial savvy and some time to dedicate the required work and enjoy working with your assets, then you do not need to pay for help. But those three factors found together are rare.

Even if you don’t have all those working for you, you’re still not without options. In fact, your most simple, cost effective option is to open an IRA account with Vanguard (whom Warren Buffett recommends). Vanguard has a customer service force ready to guide you through your next steps (beware though, some customer service folks are more helpful than others).

However, you are likely part of the 90% (that’s a guesstimate) of people who would gladly pay for some personalized guidance on your old 401(k). It’s great when you can take the burden off yourself. You may not have the confidence, the time, the energy, or the focus to make the right choices with your account.

Then I have no hesitation recommending you find and pay for professional help. My only plea is this: know how you’re paying for the advice and know your alternative options. If you do those two things, you will be able to find professional, knowledgable help with your retirement plan account.

Okay, so it’s not simple to make a confident decision with how to handle that old 401(k), but by going through the progression I’ve listed above, you’ll gain the confidence this account is in the place that’s best for you.

Feel the “Paying”: 2 keys to know you’re getting value from your financial person

Every decision you make is based on the value you receive. Take your morning: is the $1 for the coffee worth the warm drink and cascade of caffeine in your system?  Is there value in brushing your teeth for a minute to help ensure dental health and squash morning breath? Is driving 5 mph above the speed limit and risking a ticket worth getting to work 2 minutes earlier?

You make those decisions every day with hardly a thought. Other decisions don’t come as natural, such as deciding if your family should get help with their financial plan or investments.

Why is it a tough decision? Quick survey: do you know exactly how much you are paying or have paid to a financial services professional when you’ve engaged their services? You don’t, but hardly anyone does.

Why does nobody know? Because it’s a pain to figure out what you’re “paying”. But without knowing the cost, it’s impossible to determine the value of financial advice.  So you’ll either skip the advice entirely or simply find the guy (or gal) in the industry you can trust and say “take care of it and spare me the details”.  

It shouldn’t be this way. Many people hate on the financial services industry because it’s greedy and deceptive. The hate is often justified. But what’s the solution? According to recent Department of Labor rulings, the cure is government intervention, but such intervention will not come without its own costs. I have a better idea.

To improve perceptions of financial services, empower consumers. When a consumer is empowered with good information, they will flee from greedy and deceitful businesses. Consumers of financial advice need and deserve to know what they are paying. They should demand to know what they’re paying. So let’s shout it from a mountain, it’s time to FEEL THE PAYING so families can engage financial advice with confidence.

The challenge: the financial services industry would rather not share this information. So it’s no surprise the commissions, fees and expenses are buried deep within the products or services sold. And by buried deep, I mean many advisors themselves cannot quickly ascertain how much of your money is being paid in fees, commissions, or other expenses.

But take heart, you are not a hapless victim. To help you determine the value of financial advice for your family and feel the paying, you simply need 2 keys.

Communication

If you want to know the fees, commission, and expenses you are currently paying, your most powerful tool is to ask your advisor.

Be sure to watch the advisor’s reaction when you ask about expenses. Does he confidently look you in the eye and maintain calm composure? Does he give you a clear and understandable answer? He should, because as much as fees and expenses mean to a family’s long term financial well-being, the advisor should know the answer to the question and clearly communicate the information to you.

Be ready to ask the question about fees and expenses more than once. And if you still aren’t sure you are getting all the information, just sit silently as you consider the advisor’s answers. Silence is powerful tool you can use to get more useful information, or a commitment from the advisor they will work to get you better answers.

Still not confident you’re getting all the information you seek? Ask your advisor’s competitors. Call up a competing financial advisor, tell them exactly what you are doing, and ask them to help you figure out all of your fees and expenses.

Why would competing advisors help you for free? They see an opportunity for new business if they can show you they could provide more value than your current situation.

Still, these solutions still put you at the mercy of the information the advisors know or are willing to disclose. That’s why you need a second key…

Education

Everyone has their own agenda as they publish information, so it’s vital to gather information from multiple sources, not just your advisor. Good news: never in history have you had access to more information from more sources than today.

But all that information may overwhelm you, so here’s a quick educational guide for understanding the primary fees you’re likely paying when it comes to financial advice and investing:

Product commission: This is a charge based on a percentage of the money put into a particular financial product, most or all of which goes to the salesperson recommending the product. An example is an annuity which normally carries a 7% commission. That’s $7,000 on a $100,000 investment.

The salesperson may say that the commission is not paid out of your investment and that you’ll still see your full $100,000 on your statement, but consider two questions: First, if the money doesn’t come from the investor’s investment, where does it come from? The company? But where do they get their money. See where I’m going here? It’s always the investor’s money that pays the commission, however indirectly.

Second, can the investor get the full $100,000 back out next month if something changes? The answer is inevitably, no. If you want your money back before a certain period of time, you’ll likely receive your initial investment minus 1-12%, depending on how long you’ve held the investment.

Many mutual funds also have commissions. The commission is called a sales charge, and the upfront sales charge can climb up to 5.75% on the initial investment. How much the charge is depends on which share class your money is invested in (A, B, C, R, and I are common share classes) and how much is invested.

And because one share class has a lower upfront sales charge than others, it doesn’t mean the salesperson is doing you a favor. If there’s a lower upfront sales charge, you’ll be charged higher exit fees (called contingent deferred sales charges or CDSC) or higher ongoing expenses which leads us to…

Mutual fund (and ETF) expenses: Mutual funds often have ongoing fees called 12b-1 fees. A large portion of this fee will go to the salesperson (or their company) who invested you into the fund. It’s also referred to as a distribution fee. To figure out how much it is, do an internet search for your fund and then find the expense ratio. The 12b-1 fee is normally included as a part of the expense ratio.

Expense ratios on mutual funds and exchange traded funds (ETFs) can range from next to zero all the way to 2%. Beside 12b-1 fees, the expenses a fund charges goes to the advisor(s) managing the fund and the company that provided administrative duties for the fund.

To get more information on these expenses, as well as sales charges on funds, do an internet search with the ticker symbol of your fund and “prospectus” (i.e. XYZ prospectus). Within the first few search results, you should see either a PDF link or a page containing a PDF link to your funds prospectus. Once you have the PDF prospectus, hit CTRL+F on your keyboard (or command + F) to do a document search, then type in any of the following to find what you’re looking for: 12-b, management fees, sales charge.  

Transaction fees: This is the cost of buying or selling a stock, bond, mutual fund, or ETF. Sometimes an investor can see this cost directly deducted from their account, and other times it’s absorbed by the fund or the brokerage company and added to the ongoing expenses.

Certain custodians will waive these fees if you buy certain funds, especially their own funds. They can do this because they’ll either make money by creating an incentive for people to buy their own funds, or in the case they’re offering another company’s funds, they’ll usually get a kick back (which is very tough information to uncover).

Advisory fee: The advisory fee is normally deducted from the investment account managed by the financial advisor. This fee ranges from 0.15% for highly automated advisors (like robo-advisors) to 2-3% for hedge fund managers. A 1% fee is usually thought of as average, however, the average is dropping thanks to competition.

Retirement plan expenses: Many of the expenses paid by your company’s retirement plan fall into the categories already listed, but they are worth listing separately because they are often paid by your employer. Sounds good for investors, right? Only if your company has made sure they are getting good value for the expense. If not, that is wasted money that could be added to your account through a higher employer contribution.

To determine the expenses on your company’s retirement plan, you may have to dig in the weeds of your plan’s documents, and even then you could come up short of having all the information. Your next place to turn would be your own company’s financial statements, which should list if they are paying a third party advisory firm and how much.

Flat fees (hourly or retainer): These fees are normally paid out-of-pocket (by check or deducted from your bank account) as opposed to being deducted from your accounts. These are the most transparent of all the fees listed.

There are also numerous books to help you avoid getting duped by high fees. One of my favorites is John Bogle’s The Little Book of Common Sense Investing. Tony Robbins wrote Money Master the Game which contains great information on financial fees, but be warned, he rambles and has some potential conflicts of interest with the advice he’s giving.

Two simple keys: communication and education. Those can completely alter the course of your family’s financial plan. Even if you met your advisor at church (or especially if you met your advisor at church), you have to be willing to drill him on commissions, fees and expenses. Don’t be afraid to ask, it could literally be a million dollar question. And educate yourself. You don’t have to become an expert, but basic understanding of the financial fees playing field will empower you and be worth your time. Avoid financial pain by knowing what you’re paying.