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When you leave a company where you have a 401(k) retirement plan, you have to decide what to do with the money. You generally have four options:

• Keep the money in the 401(k).
• Roll over your account to your new employer鈥檚 401(k) plan.
• Roll over your account聽to an IRA.
• Distribute the money to yourself.

The last option involves taxes and penalties, so it鈥檚 generally ill-advised. The first option prevents you from making future contributions. For most people, the IRA rollover is the most attractive option.

You should consider all of your options and talk to an advisor about your situation, but for many people,聽聽can be a smart move for two primary reasons: better investment options and lower fees.

Investment options

If you keep your money in an old employer鈥檚 401(k) plan, you will continue to be limited to the 10 to 15 funds it has聽selected for you. These funds may not be top-performing funds, and they may have higher-than-average fees. The small number of offerings available to you can limit your ability to invest your account in the way that鈥檚 best聽for your goals and objectives.

From the 401(k) plan鈥檚 perspective, it鈥檚 cost-effective to limit the number of investment options, but it may not make sense for you personally. If you roll your 401(k) into an IRA, you have a much wider聽selection of investment options available to you. You can buy mutual funds, exchange-traded funds, bonds or individual stocks. For my clients, I buy individual stocks because they have no fees and you always know exactly what you own and why you own it.

However you choose to invest, you鈥檒l likely聽have more freedom and more investment options in an聽聽than in聽a 401(k) plan.

Fees

In many 401(k) plans, roughly half of the options available are target-date funds, which can come with extra fees. With target-date funds, you estimate when you鈥檇 like to retire 鈥� say, 2030 鈥� and then pick the corresponding fund, which changes its allocation between stocks and bonds to match your risk tolerance as you get closer to retirement. The downside of target-date funds is that you pay an extra layer of fees. Most target-date funds invest in other mutual funds, which means you end up paying a fee to the target-date fund plus the fees for all the underlying mutual funds. On top of that, you have 401(k) administration fees. All in, you鈥檙e paying three layers of fees.

, they can still add up, and the聽聽often surprises people. It鈥檚 not uncommon for investors to pay plan administration fees, investment fees and individual service fees. Even worse, it can be hard聽to figure out exactly what you鈥檙e paying. Plans are required to disclose most fees, but they often bury the disclosure聽in fine print that most people never read or can barely decipher.

Not all employees are in high-fee 401(k) plans, but if you are and you can roll over your plan to a lower-cost IRA with less expensive investment options, you probably should. If you鈥檙e working with an advisor for investment advice, it鈥檚 also important to look at the advisor鈥檚 fees. Some advisors charge a percentage of assets under their management on top of the fees of underlying funds. Fees shouldn鈥檛 be the driving factor in selecting an advisor, but you want to make sure you understand the various fees.

Potential downsides

The potential downsides to rolling over your 401(k) won鈥檛 apply to most people. The three primary downsides concern:

• People who retire between 55 and 59陆:聽Workers who leave a job after 55 can聽start taking distributions from their 401(k) penalty-free. But if they rolled聽over the funds to an IRA, they would have to wait until 59陆 to take IRA distributions without penalty.
• People who lose a lawsuit:聽Most people won鈥檛 ever face a lawsuit, but if you鈥檙e a high-income earner in a field with legal risk such as medicine or real estate development, you鈥檒l want to consider the legal-protection ramifications of a rollover. Assets in 401(k)s and IRAs generally are protected from bankruptcy. However, not all states聽offer the same protection to IRAs if the account holder loses a lawsuit and has a judgment against him or her.
• Some high-income earners:聽For people who can鈥檛 contribute to a聽聽directly because they exceed the聽but who use a Roth conversion strategy 鈥� converting nondeductible IRA contributions to a Roth IRA 鈥� a rollover could cause an unwanted tax liability. That鈥檚 because some of the rolled-over funds would end up being counted as additional income. If you plan to use a so-called聽, make sure you understand the consequences before rolling over your 401(k).

Talk to an advisor before you make a move, to determine whether there are any聽聽given your situation.

Rollover rules

The most common situation where a rollover is allowed is when you leave a company. Beyond that, if your company is being bought by or merged with another company, you may be given the option to roll over your existing balance. Some plans also allow current employees over 59陆 to do rollovers; check with your plan provider for details and make sure you understand any potential risks.

If you decide a rollover is right for you, there are a few important considerations. First, if you have a standard 401(k), you must roll over those pretax funds into a traditional IRA. If you have a Roth 401(k), you would need to roll over the money to a Roth IRA.

You also want to make sure you do a direct rollover from your 401(k) administrator to the financial firm that holds your IRA. This type of transfer is a nontaxable event as long as the money doesn鈥檛 go to you. Some firms will mail you a check for a rollover. If this happens, make sure to deposit the check into your IRA within 60 days to avoid having the rollover count as a distribution, which would be聽taxable.

Talking to an advisor can help you determine whether a rollover is right for you and what type of account to use, and can help ensure that the transfer is completed properly.

聽is an independent, fee-only advisor and the principal of聽聽in the Harrisburg, Pennsylvania, area.

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