When moving funds from a 401(k) to an individual retirement account (IRA), many investors unintentionally leave their money in cash, a costly mistake that often goes unnoticed. A recent Vanguard study shows that many Americans unintentionally leave their IRA funds in cash after a rollover. When this happens, they miss out on potential growth.
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When money sits in cash or a money market fund for too long, it suffers from what experts call a "cash drag." Your money isn't working as hard as it could be. Instead of earning returns through investments like stocks or bonds, it's parked in a low-yield cash account. This might feel safe but isn't a good long-term strategy, especially when saving for retirement.
Vanguard's research shows that 68% of investors who roll their 401(k) into an IRA end up holding cash unintentionally.
Andy Reed, head of investor behavior research at Vanguard, calls this a "billion-dollar blind spot" and says, "Many IRA holders want to invest their retirement savings in the stock market and think they're invested following a rollover. In reality, they're sitting in money market funds."
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Why does this happen?
A big reason people end up with cash sitting in their IRA is simply confusion. Vanguard found that nearly half investors often go into target-date funds. But IRAs don't work that way. When you roll over funds into an IRA, you must decide where that money goes. Without you making that decision, the funds will just sit in cash.
This isn't just limited to novice investors. Vanguard's research found that 77% of rollover investors had prior experience with investment accounts but still left their rollover accounts in cash.
Another reason people leave their money in cash is that the options in an IRA can be overwhelming. While a 401(k) usually offers limited funds, an IRA opens the doors to thousands of choices – stocks, mutual funds, bonds, and more. Many options like this make it difficult to decide what to do with the account. According to Vanguard, 25% of investors felt overwhelmed by these choices.
"Choice overload is a real risk for IRA investors," said Nathan Zahm, head of client experience alpha at Vanguard. "Easing the mental burden by curating options or offering advice can greatly help investors who might otherwise stay in cash forever. Better yet, a policy change allowing target-date funds to be a default option could solve this problem at scale."
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Holding cash for a short period, say, while you're deciding on investments, might be fine. But leaving large amounts of cash for months or years is almost always a mistake. Cash doesn't grow at the same rate as investments like stocks, and inflation can erode its value over time.
The good news is that this is an easy mistake to fix. Check your IRA to see if your funds are still in cash. If they are, take action by looking into investment options that align with your long-term retirement goals. Move it around and make sure your money is working for you.
If you're overwhelmed by the choices, don't hesitate to seek professional advice. Financial advisors can help guide you through the process and ensure that you're not leaving money on the table by keeping it in cash.
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© 2024 Benzinga.com. Benzinga does not provide investment advice. All rights reserved.
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