What To Do With A Bad 401k

August 22, 2007 by Joe Ponzio

I believe that 401k plans, in theory, are phenomenal. I also believe that Wall Street F-ed them up so bad and use them as tiny, recurring profit centers to ignore the “little guy” and sell their mutual funds. Oh, they’ll call you when you’re ready to roll over your old 401k; still, don’t expect much help or support when you’re socking away $500 a month-you’re small potatoes on Wall Street and they have investment banking deals to tend to.

So, what is one to do?

Note: The following discussion is meant for growth investors. If you need to start shifting money around for retirement income, you may want to explore other options as well. And, as always, this ain’t advice folks-just my two cents as I see it from a business perspective.

Here’s my list-from best to worst:

Separate Accounts

If your 401k offers you the option, you may want to explore the idea of setting up a separate account for your plan. With this option, you continue to receive your contributions, matches, and tax benefits; however, you can buy and sell any security because you have a self-directed account.

Here’s the problem: The Wall Street firm “managing” (read: getting paid for doing nothing for) your 401k plan doesn’t want you in a separate account because they won’t get paid for it. As such, they’ll either not offer the option or whack you with 2% or 3% annual fees.

No Separate Account? Petition For One!

This is your 401k plan. If enough employees want something done, they have to do it. At a larger company, talk to a member of the board of plan trustees (they represent your interests). At smaller company, talk to HR or your boss.

Know what it takes to add a separate account option or other investment options? A piece of paper. They’ll try and tell you that it is too costly to do-what with recordkeeping and tax reporting. Bull. It is all computers today. Once they figure out what your match and contribution is, they need little more than a quarterly or annual report of your holdings and account value for their annual Form 5500 plan tax return.

Partial Rollover

Can you take a partial withdrawal, roll it over to an IRA, manage your investments in the IRA, and continue to make contributions and get matches in your 401k? Some plans will allow you to do this without any sort of penalty and without officially withdrawing from your 401k.

Stuck With The Status Quo?

Most plans are garbage and don’t allow any of the above options. In that case, welcome to the world between a rock and a hard place.

If you are truly stuck with the investment options in your plan, look at the index funds. Most managed mutual funds will not grow as quickly as the markets and tend to lose more than the markets in down years. Why?

Mutual funds, at least the ones you hear about from most brokers and the ones in your 401k, generally hold so much money in so many investments that they move with the markets and often move the markets. Tack on a management fee, and you are starting behind from day one.

No Index Funds?

Even worse. In this case, your 401k plan provider is doing you a great disservice by locking you into investments when the odds are stacked against you. See if you can petition for (or simply request) index funds, partial withdrawals, or separate accounts.

Oh, The Money They’ll Make

On Wall Street, investor ignorance in 401k plans is bliss. So long as you leave your money in their mutual funds and continue to contribute, they’ll make more and more money for doing practically nothing. Think about it: When is the last time an adviser from the plan sat down with you to discuss your goals and options?

On a $20 million 401k plan, they’ll make anywhere from $100,000 to $400,000. In this age of technology, their computers will do all the weight testing, tax reporting, and other heavy lifting, they’ll laugh their way to the bank…and you’ll be ignored.

Thanks Wall Street-for shifting accountability to the employees in the interest of profits.

A Note From Joe Ponzio

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