Maximizing Retirement Savings: Avoid This ‘Billion-Dollar Blind Spot’ in 401(k)-to-IRA Rollovers
Many investors unknowingly make a costly mistake when rolling their money from a 401(k) plan to an individual retirement account: leaving their money in cash. Rollovers from a workplace retirement plan to an IRA are common after reaching certain milestones like changing jobs or retiring. About 5.7 million people rolled a total $618 billion to IRAs in 2020, according to most recent IRS data.
However, many investors who move their money to an IRA park those funds in cash for months or years instead of investing it — a move that causes their savings to “languish,” according to a recent Vanguard analysis. About two-thirds of rollover investors hold cash unintentionally: 68% don’t realize how their assets are invested, compared to 35% who prefer a cash-like investment, according to Vanguard.
The asset manager surveyed 556 investors who completed a rollover to a Vanguard IRA in 2023 and left those assets in a money market fund through June 2024. (Respondents could report more than one reason for holding their rollover in cash.) “IRA cash is a billion-dollar blind spot,” Andy Reed, head of investor behavior research at Vanguard, said in the analysis.
Rethinking Retirement Savings Strategies
Retirement experts suggest that the retirement system itself likely contributes to this blind spot. For example, when a 401(k) investor holds their funds in an S&P 500 stock index fund, they technically liquidate that position when rolling their money to an IRA. The financial institution that receives the money doesn’t automatically invest the savings in an S&P 500 fund; the account owner must make an active decision to move the money out of cash. “That’s one of the challenges: It always turns into cash,” said Philip Chao, a certified financial planner and founder of Experiential Wealth based in Cabin John, Maryland. “It sits there in cash until you do something.”
About 48% of people (incorrectly) believed their rollover was automatically invested, according to Vanguard’s survey. Holding cash — perhaps in a high-yield savings account, a certificate of deposit, or a money market fund — is generally sensible for people building an emergency fund or for those saving for short-term needs like a down payment for a house.
However, saving bundles of cash for the long term can be problematic, according to financial advisors. Investors may feel they’re safeguarding their retirement savings from the whims of the stock and bond markets by saving in cash, but they’re likely doing themselves a disservice. Interest on cash holdings may be too paltry to keep up with inflation over many years and likely wouldn’t be enough to generate an adequate nest egg for retirement.
The Downside of Holding Cash
“99% of the time, unless you’re ready to retire, putting any meaningful money in cash for the long term is a mistake,” Chao said. “History has shown that.” If you’re investing for 20, 30, 40 years, [cash] doesn’t make sense because the return is way too small,” Chao said.
Using cash as a “temporary parking place” in the short term — perhaps for a month or so, while making a rollover investment decision — is OK, Chao explained. “The problem is, most people end up forgetting about it, and it sits there for years, decades, in cash, which is absolutely crazy,” he said.
Investors should also question if it’s necessary to roll money from their 401(k) plan to an IRA, as there are many pros and cons, Chao said.
The Importance of Investing Your Retirement Savings
Investing your retirement savings is crucial to ensuring that your money grows over time to meet your financial goals. While cash may seem like a safe option, it may not provide the returns needed to keep up with inflation and generate enough income for retirement. Financial advisors recommend diversifying your investments to include a mix of stocks, bonds, and other assets that can help your retirement savings grow over the long term.
When you leave your retirement savings in cash, you miss out on the potential for growth that comes from investing in the stock market. While the stock market can be volatile in the short term, historical data shows that over the long term, it has provided higher returns than cash investments. By staying invested in the market, you give your retirement savings the opportunity to grow and compound over time, helping you build a larger nest egg for retirement.
The Benefits of Professional Advice
If you’re unsure about how to invest your retirement savings, consider seeking advice from a financial advisor. A professional advisor can help you create a personalized investment strategy based on your financial goals, risk tolerance, and time horizon. They can also provide guidance on how to diversify your investments to reduce risk and maximize returns.
Additionally, a financial advisor can help you avoid common investing mistakes, such as leaving your retirement savings in cash. By working with an advisor, you can ensure that your money is invested in a way that aligns with your long-term financial goals and helps you achieve the retirement lifestyle you desire.
Take Control of Your Retirement Savings
Don’t let a ‘billion-dollar blind spot’ derail your retirement savings. By avoiding the mistake of leaving your money in cash when rolling over your 401(k) to an IRA, you can maximize your retirement savings and secure your financial future. Invest wisely, seek professional advice, and take control of your retirement savings to ensure a comfortable and secure retirement.
In Conclusion
Maximizing retirement savings requires careful planning and strategic investing. By avoiding common pitfalls, such as leaving your money in cash, you can ensure that your retirement savings grow over time and provide the income you need in retirement. Take control of your financial future, seek professional advice, and make informed decisions about your retirement savings to achieve your financial goals and enjoy a comfortable retirement.
