Should you roll your 401(k) into an IRA?

M1 Team
M1 Team July 16, 2020
hand rolling out a spiral

So you changed your job, and now you have to get used to a whole new routine and take care of some adjustments. One adjustment you’ll need to figure out sooner or later is: what do you do with your retirement account? Should you roll over your 401(k), or leave it with your previous employer?

IRA vs. 401(k)/403(b)

When choosing where to put your retirement funds, you’ll want to consider a few things. For starters, if your assets fall below $5,000, your previous company may not allow your continued participation in its plan in the first place. Which means you’ll probably need to roll your assets into an IRA.

Even if your account size does exceed the minimum threshold, you may have to pay steep account fees that your previous employer covered while you worked for them. Fees associated with 401(k)s can range from 0.5% to 2%, which can be markedly higher than a brokerage account, especially depending on the platform you choose for your traditional or Roth IRA. Even lower-cost plans may charge higher administrative fees for former employees who leave their accounts behind. Either way, the expenses start to add up.

At the very least, continuing to hold retirement savings in old 401(k) accounts adds another layer of complexity to the landscape of your personal finances. Keeping track of several accounts can be cumbersome, and many Americans simply forget about old accounts altogether. And with a large portion of the workforce changing jobs 12 or more times over the course of a career, it’s easy to see why maintaining several separate retirement accounts isn’t ideal.

So now you’re faced with several options:

  1. You can leave your retirement savings where they are.
  2. If your new company offers a retirement plan, you can move your savings there.
  3. You can cash out your savings and take a lump-sum distribution.
  4. You can roll your retirement savings into a traditional or Roth IRA.

Here’s why transferring your assets into an IRA may be a good bet:

Oh, the fees!

Consider a few dismal statistics. Only 27 percent of Americans know what they’re paying in fees for their 401(k) accounts, 37 percent mistakenly think they aren’t paying fees at all, and 22 percent don’t even know if their plan has fees. Meanwhile, a whopping 95 percent of 401(k) participants pay administrative and fund fees on their accounts.

Unfortunately, when it comes to fees, ignorance is not bliss. Even a seemingly-small deviation in basis points can result in massive hits to your savings over the course of many years as you prepare for retirement.

Consider this example from the Department of Labor:

Assume that you are an employee with 35 years until retirement and a current 401(k) account balance of $25,000. If returns on investments in your account over the next 35 years average 7 percent and fees and expenses reduce your average returns by 0.5 percent, your account balance will grow to $227,000 at retirement, even if there are no further contributions to your account. If fees and expenses are 1.5 percent, however, your account balance will grow to only $163,000. The 1 percent difference in fees and expenses would reduce your account balance at retirement by 28 percent.

One more time in case your eyes glazed over those numbers: a 1 percent difference in fees can reduce your earnings by almost a third. A third!

But what if you find a retirement account with no management fees at all? In the previous scenario, this means you’d end up with $267,000 in your account. Even compared to a more modest 0.5% fee, you could pocket an additional $40,000 by retirement if you didn’t pay any fees on your retirement savings.

Line graph showing the difference fees make in investment growth. Starting with a portfolio of $25,000, and assuming a rate of growth of 7%, you'd earn $267,000 if you pay 0 fees. This number decreases to $227,000 if you pay a 0.5% management fee, and $163,000 if you pay 1.5% in fees.

More investment opportunities, more control

Investment opportunities with 401(k) plans can be limited and include mostly mutual funds (which is why your management fees may be high). IRAs, on the other hand, open up a whole new world of investment opportunities, offering significantly more freedom of choice. Depending on the account you choose, you could invest in mutual funds, stocks, ETFs, bonds, and more. You can invest however you want without sacrificing portfolio diversity.

Ultimately, more investment options mean greater control, and, more importantly still, the ability to know what you own and why you own it. Rather than investing blindly in funds chosen by your previous account administrator, you can tailor a traditional or Roth IRA to align with your unique financial needs, risk tolerance, and even your personal values.

Plus, depending on the broker you choose, you could still schedule your contributions so they align with your paychecks, just like your employer-sponsored plan did.

Allow us a quick sales pitch: At M1, you can build your own portfolio (or start with a target date Expert Pie if you need more help), automate your contributions, rebalance your portfolio at your leisure with just one click (or automatically with every contribution), and more. Simply put, you get more control over where your money is going and how it grows.

Other options

If you choose to move your retirement savings, rolling over to an IRA isn’t your only option. You can move your old 401(k) to a retirement plan with your new company if they offer one. Your company may offer a 401(k), a SEP IRA, or even a SIMPLE IRA. The details are up to your new employer.

The benefit of this type of move would be that you’d be able to make investments in the new plan and receive company matches all in one place. If you’re considering this move, you may want to ask your administrator about investment options, fees, and the company match. You can compare that information to what you know about IRA rollovers and make the best decision for your finances.

Everything in one place

Consolidating your retirement savings (whether you do it in an IRA or another retirement plan) does more than reduce the number of accounts you have to keep up with over the years — though that alone is a major perk. With all your assets under one roof (or, at least, fewer roofs) you can more efficiently evaluate risk and return to hone and develop your investment strategy over time. 

Plus, you’ll get a more comprehensive picture of how prepared you are for the future and streamline decisions about required distributions when you finally reach retirement age. 

And like we mentioned above, you can also opt to keep your retirement savings where they are or cash them out in a lump sum, but these options should be accompanied by research to find out what fees (if any) you’ll be charged.

So… How do I take the leap?

Even once you’ve decided you should roll over your 401(k), it can be easy to tack “transfer retirement account” onto your to-do list, only to forget about it. Many of us delay rolling over our accounts because we expect it to be a long, manual, and arduous process.

Luckily, it doesn’t have to be this way. If your plan is to go with M1, just follow these instructions to get started. Our team will take care of the rest.