The most widely held investment in the United States is the employee-sponsored plan, typically in the form of the 401(k). Employees save into it diligently for decades, yet as they approach retirement, most people are not aware of the many options available to them both before and after retirement, nor the dangers that exist in just staying the course. As financial advisors, it is our job to educate and inform our clients of the variety of options they have when it comes to their 401(k), the advantages and disadvantages of timing and what makes the best sense for their financial futures. 

Many of the people I meet with erroneously believe that they have to be retired to roll over their 401(k). The reality is that most people do NOT need to be retired before they decide to roll over their 401(k)! In fact, it is ideal and can be very advantageous if they roll it over before their retirement. The best retirement plans are designed while our clients are still working. This is a mindset that not all of our clients may have, or be aware of, and we need to educate them on this important insight. How can we do so?

Saving for retirement is fairly straightforward during working years. Clients will save as much money as they possibly can by investing into a portfolio that they hope increases in value over time. That's pretty much it. Transitioning into retirement is a conversation about income. As advisors, it is our responsibility to ask the tough questions to understand our clients’ financial and mental comfort level. How much income do they need to live on? Where do they take it from? How do they take it out? What's the tax impact of doing that? How long is it going to last? And what's going to happen to the money when they’re gone? The best strategies are designed, certainly, to last as long as the client needs them to by using a laddered strategy where the client gets the benefit of current liquidity and necessary future growth.

As we have these important conversations with our clients, we need to let them know the reason that it's advantageous to design this plan before retirement is that some of the investments that might appeal to them to use might not be able to be touched for a year, or there isn’t the option to draw money out of them for three years. If the client is still working, they will most likely not need to draw on these funds in the near future. If they wait until they retire to figure out their retirement plan, it can be very difficult. Trying to design a prudent retirement while going through the transition of no longer working and no longer getting a paycheck can be a very overwhelming proposition.

So, why advise a client to roll over their 401(k), especially if they don’t see the immediate benefits to their financial bottom line? By choosing to roll over their 401(k) before their retirement, the client opens themselves up to a variety of options that they wouldn’t normally have if they continue to be locked into their employer-sponsored plan, and this can decrease their risk. When meeting with clients, we should remind them to take into account the following:

• A big benefit of rolling over their 401(k) into an IRA is that they typically get more investment options. If a client contributes to their employer’s retirement plan, they might end up with only a few options provided by the plan administrator. The client might have to be heavily invested in company stock or might have a limited number of high-cost mutual funds to choose from. They also might end up with having one stable value option, which is a fixed rate, which becomes more and more appealing, and more and more appropriate as they approach retirement, but at a potentially less than desirable rate.

• Instead of relying on these investment options, some of which a client might not be comfortable with, they can roll their plan over to an IRA and have nearly the entire universe of options available to them.

• Fees can also play a role in a 401(k) rollover. Fees in a client’s 401(k) might be less than they are in an IRA, or the fees in their 401(k) might be more than they are in an IRA. (This is all situation-based from their employer).

• Rolling over a client’s 401(k) can also help alleviate risk. What if the client doesn't want all of their money invested into traditional market investments that they might feel are too risky and too up and down as they get closer and closer to retirement? By rolling their money out of their employer-sponsored plan, the client gains flexibility and control, and it prevents being overly involved in market risk at a period of time where they probably shouldn't be, or maybe don't want to be. If the client desires something that has no risk of loss, they’re probably going to need to give up upside potential, or they might be tying that money up for a period of time. It is important to let them know that this might be appropriate for some of their money, but it is very rarely appropriate for all their money.

Once past the age of 55, and certainly 59 and a half, is the date that a lot of these options become available to our clients. Some important questions to ask in a conversation with a client are:

• Are there things that you should be taking advantage of available outside that plan that you can't get within the plan?

• Are there tax benefits that you might achieve in rolling some of that after-tax money out?

• Is there some money that you have that you don't plan to spend within the next ten years? (The reality is probably yes—15 to 20 years).

It’s taken years and years of good financial decisions and saving to put many of our clients in the position they’re in today; a position where retirement is no longer a hope, but a reality. Mistakes made close to or in early retirement can put them at risk of running out of money in retirement. Many people feel that keeping their 401(k) in their employer-sponsored program will provide them with the biggest financial rewards, but staying the course might limit their options and put them at increased risk. It is our duty as financial advisors to engage our clients in these important conversations, and present them with the most valuable opportunities to ensure that their family’s retirement is everything they hoped it could be.

Eric Hogarth, CFP, is a partner at Johnson Brunetti in Wethersfield, Conn., and is a member on the team of financial advisors.