Retirement plans are drain on stock funds More ex-workers take cash instead of IRA rollovers


News that stock mutual funds suffered a net withdrawal of cash in August to the tune of $11.2 billion -- the first monthly net redemption in eight years -- eroded the belief that systematic mutual fund buying represents a safety net under stock prices.

The long-running bull market engendered the expectation that American workers, individually empowered with tax-advantaged, employer-sponsored retirement savings plans such as 401(k) programs, would buy stocks through mutual funds in good markets and bad, with the convenience of payroll deductions.

Many 401(k) participants, like other investors, follow stock price trends and were busy switching out of stock funds during the late August sell-off.

There is another source of leakage from mutual funds: More than percent of workers in defined-contribution plans, such as 401 (k)s, take their money out in cash when they leave their employer before retirement.

These withdrawals occur despite the tax penalty for failing to roll the 401(k) balance into an individual retirement account or other qualified retirement plan.

Workers with large sums vested in 401(k) plans tend to maintain the dollars in tax-advantaged plans. A Hewitt Associates study found that 78 percent of the dollars distributed by employers to workers who leave before retirement remained in an IRA or other long-term program. But workers with smaller accounts -- presumably younger workers and those new to the discipline of long-term investing -- took the cash.

"The larger balances continued their tax-deferred status, while the smaller balances were paid out and taxed," concluded a report by the Chicago-based Profit Sharing/401(k) Council of America, which represents employers and retirement-plan providers.

American workers typically switch employers many times in a career. Cash redemptions of retirement-plan assets by workers who are laid off or voluntarily seek new employment represent lost retirement savings for many workers and a drain on funds in stocks and other securities.

"It's very hard for people with small balances [in 401(k) accounts] to preserve them," said David Wray, president of the Profit Sharing/401(k) Council. "If I'm leaving my job in Chicago and have two weeks to move, it's a very stressful time."

The tax forms required to roll a 401(k) balance into an IRA are long and complicated. The current stress in the stock market doesn't help make the case for holding 401(k) balances in stock mutual funds.

Whatever benevolence an employer might feel toward employees and retirees disappears when employees leave voluntarily or involuntarily before retirement. Many employers PTC send the ex-employee a check for the balance, minus tax withholding, and are glad to get the account off their books.

"People with smaller amounts get them paid out at a time of enormous personal distraction," Wray said. "We've got to get these people with small balances to retain them."

Mutual funds have spent millions convincing employers that they are the sensible mechanism for managing 401(k) assets. Employees, who like to follow their 401(k) investments by tracking mutual fund results in the newspapers, tend to agree. But the investment needs of ex-employees have fallen through the cracks, Wray says.

"The mutual fund companies are sort of bifurcated," he said. "You have people who sell to [retirement] plan sponsors and you have the retail salespeople. They don't connect. So, people who are servicing the qualified retirement plans are working to get people to save in the plan to get the participation up, and that's where it stops. When the money passes out of the plan, it's not seen as part of their responsibility, and the retail people aren't chasing it."

Brokerage firms have targeted the rollover market more effectively than mutual fund management companies. Mutual funds are beginning to recognize the potential of keeping a 401 (k) customer after the customer leaves the workplace.

"There is going to be more money in IRA rollovers from qualified retirement plans than there is in 401(k) plans. Now, it's about equal," Wray said.

Wray believes the paperwork required to shift 401(k) assets into an IRA should be simplified. Mutual fund companies and employers should help departing employees keep 401(k) assets in place as an IRA.

Pub Date: 10/18/98

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