There are exceptions, but for the most part, if you have an old 401(k) account sitting with a previous employer, it’s a good idea to roll it into an IRA. The administrative costs are usually lower, and you’ll have access to more (and better) funds.
In terms of where to rollover your 401(k), you have three major options. You can roll your 401(k) account into an IRA at:
- A mutual fund company,
- A full service brokerage firm, or
- A discount brokerage firm.
Mutual Fund Company
Rolling a 401(k) into an IRA with a mutual fund company can be a good choice. As long as you make sure to choose a fund company that has low-cost funds, low (or no) administrative fees for IRAs, and a broad enough selection of funds to build a diversified portfolio, you should do just fine.
“Full Service” Brokerage Firm
Brokers (calling themselves Financial Advisors) make a living by repeating this process:
- Track down somebody with a 401(k) account to rollover,
- Convince them to roll it into an IRA at their firm, and
- Once it’s rolled over, sell the investor a portfolio of mutual funds with steep up-front sales loads.
Some personal finance authors equate this with highway robbery. I don’t think it’s that bad–most brokers have good intentions, and you’ll likely end up with a portfolio with a reasonable asset allocation–but it certainly results in paying more than you have to.
To name names: At companies like Morgan Stanley, Merrill Lynch, Wachovia, Smith Barney, UBS, or Edward Jones, a financial advisor will usually try to sell you either a portfolio of funds with front-end commissions (a needless cost) or an advisory account with unnecessarily high ongoing fees.
Discount Brokerage Firm
Your third option–the one I like best in most cases–is to roll your 401(k) account into an IRA at a discount brokerage firm. Due to the proliferation of exchange-traded funds (ETFs), you can now quickly and easily create a low-cost, diversified portfolio at any discount brokerage firm.
The decision between ETFs (at a discount brokerage firm) and traditional open-end index funds (at a fund company) comes down primarily to cost. ETFs typically have lower ongoing costs, but you have to pay a commission to purchase them. The commission varies by firm, but it’s usually somewhere between $5 and $20.
While there are exceptions, the following is typically how it breaks downs:
- For investors systematically investing every month, ETFs likely cost more than traditional open-end index funds because you have to pay a commission on each purchase.
- For investors with a lump sum to invest–such as a 401(k) to rollover–paying a few $5 or $10 commissions up front in exchange for lower ongoing expenses is likely a good choice.
As to which firm to choose: TradeKing is my discount brokerage firm of choice. (You can read my review of TradeKing here.) But depending upon your circumstances, a different firm may be better for you. (Here’s a comparison of IRA costs at various discount brokerage firms.)
Want to learn more about investing?
Enter your email address to receive free updates from this blog. (You won't receive any emails other than blog posts, and you can unsubscribe at any time.)Confused About Investing?
| If you're looking for a brief, plain-English introduction to investing, I'd encourage you to pick up a copy of my book: Investing Made Simple: Investing in Index Funds Explained in 100 Pages or Less. |  |
{ 2 comments… read them below or add one }
Great advice. I have been just sitting on my 401(k), unsure of what to do with it. I already have an IRA with vanguard. And my 401(k) is with fidelity. Would it make sense to consolidate?
Hi Jack.
In my opinion, it almost always makes sense to rollover a 401k. (The few times when it doesn’t make sense to roll it over can be found here.)
On the one hand, Fidelity is generally fairly low cost. However, the fact that it’s a 401k account may mean that it has administrative fees that wouldn’t be incurred if it was an IRA–even an IRA with Fidelity.
And I’m a huge fan of Vanguard. All of my retirement money is invested through Vanguard (either through Vanguard ETFs at TradeKing or through regular index funds at Vanguard itself).