Table of Contents
Your Options
Do nothing (if allowed)
Cash out your account (painful)
Roll over to a non-managed IRA
Roll over over to an IRA under our (or another advisor’s) management
Roll over to the new employer plan (if allowed)
Tips & Traps
20% Irs withholding trap
Accidentally Paying Taxes TWice
Special Treatment of Employer Matches in Roth Plans
Be Wary of “Free” or “No Fee” Claims
Realize Conflicts of Interest
Appreciated Company Stock has different tax implications
Age Matters
Understanding Fees
Assets Under Management (AUM) Fees
Fund Expense Ratios
Sales & Commission Fees
Plan Administration Fees
Hidden Fees
Joshua Escalante Troesh, CFP | MBA
About Us
Joshua is a Tenured Professor of Business, a Certified Financial Planner, and founder of Purposeful Strategic Partners. He was the #1 ranked financial advisor nationally on Investopedia’s Advisor Insights* and has been quoted in Forbes, Consumer Reports, CNBC, The Wall Street Journal and numerous other publications.
Fiduciary: We are required by law to serve our clients' interests first in all aspects of planning and to fully disclose potential conflicts of interest.
No Product Sales: We don't sell insurance, mutual funds, or any other financial product on commission.
Comprehensive: We take an integrated approach that considers your entire financial picture including tax planning, cash flow management, and more.
Life-Focused: We view money as a tool to help you achieve your great life, both now and in the future.
Rollover Options
Options we don’t recommend
Bad Ideas
Option 1
Cash Out Your Account
You can liquidate your account, but this is a costly option. Usually, your employer is required to withhold 20 percent of your account balance to prepay your tax liability, but this may not be enough to cover the taxes owed. Additionally, the IRS may charge an early withdrawal penalty ranging from 10% (most common) to 25% of the account balance on top of combined federal, state, and local taxes. We generally discourage our clients from liquidating their accounts because the total tax penalties and consequences can eat up more than half (50%+) of your account’s value.
Advantages
Immediate access to funds.
Disadvantages
Loss of a significant portion of the account value due to federal, state, local taxes being owed.
Likely to increase your tax bracket due to concentrated tax liability in the year of withdrawals.
May increase taxes on your salary and other income or reduce deductions and tax credits due to Adjusted Gross Income being reported.
Additional penalty (10%-25%) if an exception doesn’t apply under the law.
Option 2
Do Nothing
You may be able to leave your account with your previous employer, if permitted by the plan’s documents. Not all plans allow for accounts to be left meaning the plan may cash you out and send you a check, along with all the taxes, penalties, and problems identified in Option 1. Even if they do allow it, we generally discourage clients from taking this option. Having multiple plans from multiple previous employers creates an administrative burden and increases the likelihood you’ll forget about and lose a portion of your retirement funds. And as you enter retirement, holding multiple employer plans greatly increases the complexities of your taxes, especially as you enter RMD age.
Advantages (if Allowed)
Maintain tax-deferred status and avoid withdrawal penalty.
Protection from creditors and bankruptcy.
Access to educational resources and investor support from your previous employer plan administrator.
Disadvantages
Limited investment choices and potentially high fees.
Less flexible distributions and new contributions are not allowed.
Subject to changes made to the plan by your previous employer.
Extra work for managing multiple accounts.
Potential for conflicted advice from plan advisors who are commissioned sales representatives.
Good Options we may recommend
Good Rollover Options
Option 3
Roll Over to a Purposeful SP IRA
The easy-button. Engage our firm to roll over your account to the your appropriate IRA account with no taxes or IRS fees or penalties. You’ll maintain all the tax advantages of your 401(k) plan, have access to more investment options, and retain sole ownership of all of your money and your account. Plus you’ll receive comprehensive financial planning on your entire financial life (not just retirement) from a fiduciary Certified Financial Planner.
Advantages
Maintain tax-deferred status and avoid withdrawal penalty.
Assets remain protected from bankruptcy.
Robust Financial Planning
An experienced Certified Financial Planner will work with you to integrate your investment strategy within your broader financial plan.
Integrated tax planning, cash flow planning, risk management (lawsuit liability), investment management, retirement planning, estate planning and more.
Advising on non-retirement assets including real estate, debt management, lifestyle assets, investing for other goals, and more.
Access to an advisor who does not sell products on commission and is legally required to place your interests above their own.
More investment choices, services, and features not present in your workplace plan.
Each account in your portfolio can be adjusted to optimize account tax benefits.
Less Work For you
Your accounts are consolidated for efficient monitoring and management.
You are free from paperwork and account administration.
We manage and rebalance your investment portfolio according to your changing financial needs.
We implement investment and tax strategies such as Roth conversions and tax-efficient asset location.
The lifetime tax implications of your investment strategy are managed and minimized.
Potential Fee Savings
Expense ratios and fees may be lower in IRAs managed by PSP than those in your old plan.
AUM will eliminate financial planning fees once AUM minimums are met.
Disadvantages
AUM fees will apply to assets under PSP management, which may be more or less than the cost of your existing 401(k) fees. (Explanation of AUM fees below)
If you are subject to a higher-than-average lawsuit risk, IRA funds have lower liability protection than ERISA-covered plans.
Withdrawals from your current employer’s plan may be made as early as 55 without penalty vs. 59½.
Option 4
Roll Over to Non-Managed IRA
Transfer your account to an IRA and self-manage the account. This is optimal for the Do-It-Yourselfer who wants to take the time to properly manage the investment, tax, and other implications. While this is doable, these implications can be complicated, especially as they relate to tax law. You can also use our Ask-A-CFP session to review your plan and strategy.
Important: Make sure you roll over the account as a direct trustee-to-trustee transfer. If you roll it over as an indirect rollover or the direct rollover check from the old plan administrator is made out to you, you may be subject to an IRS withholding of 20% of the account value. You’ll then need to find and contribute the 20% difference from your other money within 60 days or it will be a deemed distribution subject to taxes and penalties. You will get that 20% back, but only after filing your taxes the next year.
Advantages (if Allowed)
Maintain tax-deferred status and avoid withdrawal penalty (if done correctly).
Consolidate retirement savings into one account and may allow new contributions.
More control, and responsibility, over investment strategy.
More investment options.
May avoid AUM fee but other fees will apply.
Protection from bankruptcy.
Disadvantages
Fees may be higher than the employer plan or other options.
IRA brokers/custodians may charge an AUM fee or other maintenance fee for very little advice.
You’ll need to come up with 20% of the accounts value if the rollover is done incorrectly.
You will need to administer the account including rebalancing, managing tax implications, or re-allocation of portfolio as circumstances change.
Tax costs and IRS penalty fees may be incurred if tax implications are not managed.
Penalty for withdrawals made before you reach 59½ if another exception doesn’t apply.
Limited protection from creditors.
Potential for conflicted advice from staff who are commissioned sales representatives.
Option 5
Roll Over to New Employer Plan
If your new employer’s plan allows it, you can roll over your old 401(k) to your new 401(k). The same warning applies as the last option, however, as you’ll need to confirm the roll over is done correctly to avoid the 20% IRS withholding. Depending on the new employer’s plan, fees, and investment options, this may be a good option. You’ll want to carefully read the plan’s legal filings and investment options. And pay close attention to the fees you may be paying vs. the fees your employer is paying.
My wife’s plan at one of her old law firms charged a 2.95% annual AUM fee on top of investment fund fees of up to 1.5%. This was triple the all-in fees we charge our clients for ongoing advice - but she did get to meet with the person once for 30 minutes.
Advantages (if Allowed)
Maintain tax-deferred status and avoid penalties (if done correctly).
Consolidate retirement savings into one account and allow new contributions.
The plan administrator is required to monitor cost and investment options.
Protection from creditors and bankruptcy.
Access to withdrawal funds at age 55 if you retire from this employer and meet other eligibility requirements.
Disadvantages
Limited investment choices.
Potentially higher investment fees and advisory fees.
Subject to changes made to the plan by your employer.
Potential for conflicted advice from plan advisors who are commissioned sales representatives.
Tips & Traps
The IRS May Ask You For 20% of Your Account Value
You can roll over your account either as a direct or indirect rollover. With a direct rollover, you instruct your former employer to send your 401(k) assets directly to your IRA or new employer’s plan or to an IRA without you having been deemed to “handle” the money. With an indirect rollover, you start by requesting a lump-sum distribution from your plan administrator and then take responsibility for completing the transfer. While this sounds straightforward, your rollover can be deemed to be an indirect rollover even if you never receive or see the money if the check is written incoreect — being written out to you instead of written out to the institution your account is with for your benefit.
Indirect rollovers have significant tax consequences. The plan is required to send 20% of your account value to the IRS, called a withholding. You must then find an additional 20% of your accounts valuee from other savings or money and deposit the funds in your retirement account within 60 days. If you don’t, the 20% will be deemed to be a distribution and taxes and penalties will apply. If you want to defer taxes on the full amount of the account, you will have to add funds from another source equal to the 20 percent withheld by the plan administrator. You then can get the 20 percent back when you file your taxes next year.
Don’t Accidentally Pay Taxes Twice
Minimize taxes by rolling Roth to Roth and traditional to traditional. When you roll over your retirement plan assets, you need to designate the account type for the moneys being rolled over. Be careful not to mix up the account type as it will cause tax issues. If you roll traditional money into a Roth account, the rollover will be considered a conversation and you will owe taxes (but not penalties) on the amount you rolled over. Worse, if you roll Roth money into a traditional account, you’ll end up paying taxes on the money twice because the traditional account assets will come out as taxable income during retirement instead of being tax free as the Roth money would have been.
Special Treatment of Employer Matches in Roth Plans
The IRS requires that any employer match of contributions made to a Roth plan be placed in a pre-tax account and treated like matching assets in a traditional plan. To avoid taxes when rolling over a Roth plan that includes matching contributions from your employer, you will need to request the transfer of your contributions and earnings to a Roth IRA and your employer’s matching contributions and earnings to a traditional IRA.
Be Wary of “Free” or “No Fee” Claims
Competition among financial firms for business is strong, and advertising about 401(k) rollovers and IRA-related services is common. In some cases, the advertising can be misleading. Regulators have observed overly broad language in advertisements and other sales material that implies there are no fees charged to investors who have accounts with the firms. Even if there are no costs associated with a rollover itself, there will almost certainly be costs related to account administration, investment management or both. Don’t roll over your retirement funds solely based on the word “free.”
Realize Conflicts of Interest
Financial professionals who recommend an rollovers might earn commissions or other fees as a result. Even leaving assets in your old employer’s plan (or rolling to your new employer) will generate revenue for the 401(k) provider and customer service agents may be compensated for retaining or growing assets in the plan. Make sure you understand, and ask about, the conflicts of interest that may be present. Everyone has conflicts of interest, but you should understand those conflicts and how they might influence their advice.
Appreciated Company Stock Has Different Tax Implications
If your old employer plan has company stock, bonds, or other securities within it, a new set of tax rules will apply. Any increase in their value will typically be subject to ordinary income tax when you withdraw the securities from the plan. Special IRS rules might allow you to defer paying taxes on the appreciation (which the IRS calls “net unrealized appreciation”). Consult your plan administrator and financial and tax professionals about tax scenarios related to appreciated company securities
Age Matters
There are certain ages that carry with them important specific considerations.
If you plan to retire before 60, having some money in your current employer’s plan is a benefit. If you leave your job between age 55 and 59½, you may be able to take penalty-free withdrawals from that employer’s employer-sponsored retirement plan. For early retirees, having enough money in your current employer’s 401(k) to get you through the first few years of retirement is a key planning consideration.
Once you reach age 73, the IRS requires you to withdraw minimum amounts from each account, known as Required Minimum Distributions (RMDs). The rules for these RMDs vary by account type. One example is all IRAs are counted as one account for the purposes of calculated RMDs and RMD distributions, but each workplace plan must be considered, calculated, and distributed from individually.
Understanding Fees
No one works for free.
Whatever choice you choose, there will be fees associated the option. Below are the typical potential fees for each option and an explanation of each fee and how it’s calculated. Below are the fees and expenses you’ll pay to us for housing IRA accounts at our firm as well as the potential fees your 401(k) plan or a self-managed IRA firm may charge you. To determine what a firm actually charges, carefully review the agreement, disclosures, and other documents related to the account.
You’ll notice our list is relatively short. That’s because we believe fees should be transparent and easily understood by clients. And we don’t make money from commissioned sales, industry kick-backs, or hidden fee structures.
Purposeful SP Managed IRA Accounts
AUM Fee
Fund Expense Ratio (ultra-low cost)
401(k) & Workplace Plans
AUM Fee
12b-1 Fees & Sales Charges
Fund Expense Ratios (vary based on employer’s choices)
Plan Administration Fees
Individual Service Fees
Variable Annuity Fees
Hidden Fees
Self-Managed IRAs
Transaction or Trading Fees
Hidden Fees
AUM Fees
12b-1 Fees & Sales Charges
Fund Expense Rations (vary based on your choices)
Variable Annuity Fees (vary based on your choices)
Types of Fees & Definitions
AUM Fees
Assets Under Management, or AUM fees, are the most common fees in the industry and are charged as a percentage of the amount of money managed by the 401(k) plan, advisor, custodian, or other financial service provider. The annual fee is calculated by multiplying the percentage by the amount of money you have under their care. So an AUM fee of 1% would result in a $100 annual fee on a $10,000 portfolio (10,000 x .001 = 100), while a $250,000 portfolio would have a $2,500 annual fee.
Your employers’ retirement plan will have an AUM fee associated with your assets under management, but it may be subsidized by the employer. Our firm charges AUM fees on the money we manage, or if we don’t manage money for clients we charge a flat financial planning service fee.
Whether the AUM fee is high or low depends more on the services you receive than on the percentage you are charged. Multiple research studies from Vanguard and academia demonstrate comprehensive advice adds as much as three times the after-tax return benefit as the fee charged, but investment management makes up a small percentage of that return. Most of the benefit comes from tax planning, behavioral coaching, and other non-investment financial planning areas.
See Vanguard Research [Advisor Alpha; 2016 - Updated 2022], Walden University Research [The Impact of Using a Financial Advisor on Financial Success; 2023], Texas Tech University Research [Advisor Impact on Retirement Outcomes], Morningstar Research [Alpha, Beta, and now Gamma; 2013].
Fund Expense Ratios
Mutual Funds and ETFs charge fees similar to the AUM Fees discussed above. Expense ratios are presented as a percentage and are calculated annually based on the amount of money you have with the fund. So a fund expense ratio of 1% will charge $100 annually for every $10,000 in the fund. Unlike AUM Fees for advisory services, academic research has shown no potential benefits from paying for expense ratios beyond the administrative costs of running the fund. As a result, funds with higher expense ratios extract additional money from your portfolio without any corresponding value.
Trading or Transaction Fees
When money is contributed into your account it gets invested by purchasing mutual funds, ETFs, or other investment securities. Some firms will charge trading costs, or transaction fees, for each purchase or sale you make of a security. Keep in mind, proper investment management will mean occasional selling of some investments and purchasing of others to bring your portfolio back to your initial strategy as it naturally drifts over time due to market volatilities. These transaction fees can add up and used to be the primary revenue generator for the investment brokerage industry.
Sales Charges or Loads
Sales charges (also known as loads or commissions) are transaction costs for buying and selling of shares in addition to the trading fees mentioned above. They may be computed in different ways, depending upon the investment product but are commonly a percentage of the amount invested. Unlike AUM fees, however, these fees can range from 3% to 6% or more of the amount invested. These act as commissions to pay the ‘advisor’ (commissioned sales representative) for the sale of the financial product. These charges apply even if no advisor sold you on the product. Instead, they are just paid to the 401(k) plan administrator, broker, or custodian you have your account with.
12b-1 Fees
12b-1 Fees are fees are ongoing fees paid out of fund assets, similar to an AUM fee, but are used to pay commissions to brokers and other salespersons, to pay for advertising and other costs of promoting the fund to investors, and to pay 401(k) plan service providers as part of a bundled services arrangement. Some mutual funds may be advertised as “no-load” funds but will still charge a 12b-1 fee.
Plan Administration Fees
These fees pay for the day-to-day operation of a 401(k) plan, such as plan recordkeeping, accounting, legal, and trustee services. These fees may be a flat fee charged against the plan assets or a percentage of plan assets similar to an AUM fee or fund expense ratio. Your employer may pay for all, a portion, or none of these fees.
Individual Service Fees.
In addition to overall administrative expenses, there may be individual service fees associated with optional features offered under a 401(k) plan. Individual service fees are charged separately to your account if you take advantage of a particular plan feature. For example, individual service fees may be charged to for taking a loan from your account, wiring funds, or for executing your investment directions.
Variable Annuity Fees
Many 401(k) plans (or IRA custodians) will offer variable annuities as an investment option through a commissioned sales relationship with an insurance company. The insurance contracts “wraps” around investment options and credits for paying for the insurance are determined by a combination of your contributions and the ‘returns’ of the investments. Variable annuities tend to have very high fees, with many of the fees hidden within the workings of the annuity and burried in the annuity contract language. Variable annuity fees include investment management fees, administation fees, insurance-related charges, sales expenses (commissions), mortality risk charges, and other costs. They may also include a surrender or transfer charge, similar to a withdrawal penalty, which can take a significant portion of your assets if you choose to exit the contract.
Hidden Fees
Many ‘free’ or low-cost account options operate by taking hidden fees from customers with little transparency on the fee or how it’s charged. These fees can vary from giving you slightly worse prices for buying and selling investments than you would get elsewhere to selling your data to high frequency traders and other sources. They may also earn income from investment companies to push clients to higher-cost investment products that are more profitable for the investment company.
Bid Ask Spreads: The bid is the amount a buyer will pay for a security and the ask is the amount the seller receives for selling the exact same security at the exact same time. The spread is the difference between these, with the buyer paying a bit more than the seller receives and the difference going to the firm that facilitated the transaction. Some companies will increase the spread, or difference between the bid and the ask, in order to pocket more money. Or they will route trades through firms who increase the spread, and will receive a kickback for it.
Turnover/Trading Friction: These hidden transaction costs are generated when active fund managers frequently buy and sell securities inside a fund, which is one of the reasons we don’t use actively managed funds. This is an additional cost beyond the expense ratio reported by funds based on the investment options available in the 401(k) or the investment choices made within the IRA.
Cash Drag (Sweep Yields): Uninvested cash sitting in your account is often "swept" into low-yield money market funds where the institution keeps a large portion of the interest. Large institutions may also lend this cash out or reinvest it at a much higher rate of interest, pocketing the difference. This cash greatly reduces the return you receive on your investment account, known as the drag. Investment accounts should have a very small cash allocations to avoid the cost of this drag.
Selling Your Data: Many free or low-cost firms will also make money by selling your data to third parties. This generally takes the form of selling trade data to high-frequency trading companies who can make money by buying or selling ahead of trades made by the public, known as front running. This has the effect of causing the public to pay slightly more for investments and receive slightly less when they are sold.
Purposeful Strategic Partners
About Us
Fiduciary:
As a Registered Investment Adviser, we are held to the highest fiduciary standard in the industry. We are required by law to serve our clients' interests first in all aspects of planning and to fully disclose potential conflicts of interest. This isn't just a policy for us, it's a legal obligation.
No Product Sales:
As a fee-only financial planner, we only are compensated by our clients for advice. We don't have the conflicts of interest from product sales commissions, kickbacks, or other forms of hidden compensation.
Comprehensive:
We take an integrated approach that considers your entire financial picture. Planning goes beyond investments and retirement to incorporate cash flow analysis, tax planning, risk management, career development, debt management, estate planning, and more.
Life-Focused
We view money as a tool to help you achieve your great life, both now and in the future. It’s not about ‘growing your money,’ it’s about aligning your finances with your values and the impact your money can make on your life, your community, and your family.