IRA 'Junk' Bunk

  There’s a “new” retirement crisis to fret about — and it involves so-called “junk” IRAs.

You may have seen the recent Wall Street Journal’s headline that proclaimed “Forgotten 401(k) Accounts Are Costing Americans Billions in Lost Investment Gains.” This particular assertion turns out to be another spurred by (yet another) proclamation from an IRA provider (PensionBee), though this one at least doesn’t manufacture quite as ludicrous a compounding of the size and number of those accounts as others[i] have done.

More precisely, the issue they raise is that smaller retirement plan balances can, and often are, legally expunged from the plan of their prior employer into an IRA.  

Now, retirement plan professionals know how this works — those who sever (or who are severed from) employment with less than a $1,000 balance will likely have that distributed to them in cash, those with balances above $7,000[ii] will generally have the option to leave that balance behind,[iii] and those with balances in between those two figures … well, if the employee doesn’t make a separate election, their former employer has the option[iv] to distribute out these “small” balances to an IRA.

Not just any IRA, mind you — the law (ERISA) requires a review and selection process that the plan fiduciary must enter into a written agreement with the IRA provider that — among other things — addresses the investment of the rollover funds and the fees and expenses to be charged to the account. With regard to the former, the rollover funds must be invested in a vehicle “designed to preserve principal, and provide a reasonable rate of return, whether or not such return is guaranteed, consistent with liquidity,” such as money market funds, interest-bearing savings accounts, certificates of deposit or other “stable value products.” 

With regard to the latter, the fees assessed against the IRA cannot exceed the amounts charged by the IRA provider for comparable IRAs established for rollover distributions that are not automatic rollovers. Sound like “junk” to you?

Oh — and participants are required to receive notice of this. 

So, what’s the big deal? Well, to put a “face” on this crisis, the Wall Street Journal manages to find a person who admits that she was told about this when she left her job, but “busy with her new job,” didn’t do anything about it. Only to find out (much later) that the IRA balance declined during that period — because the return on that IRA ($6.98) was less than the fees in the IRA ($15). This individual now says she feels “duped” — because she missed out on market returns (24% that year,[v] according to the WSJ) while “busy with her new job.” 

Well, cry me a river. 

So — how are these “junk” IRAs costing Americans billions? PensionBee leans on data from the Employee Benefit Research Institute (EBRI) to say that “By 2030, 13 million accounts worth $43 billion are projected to be swept into Safe Harbor IRAs through automatic rollovers.” Now, considering the size of the overall retirement savings market, that’s not a lot — but it IS, at least the purported “billions,” and from a credible source.

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But then the white paper that highlights the issue cautions about the “threat” posed by so-called “junk” IRAs — and by “junk,” they apparently mean IRAs other than the ones they offer.

Look, what this individual — and the “millions” of others like her — aren’t helped to appreciate by this article is that the provision here not only likely helped preserve their retirement savings, but spared them from paying the taxes and penalties that would have been assessed if they had simply taken that distribution in cash. Oh — and that they were told they had an opportunity to make a different decision, and just … didn’t.

That’s not the fault of the employer, the 401(k) plan, or the IRA she was invested in, despite the pejorative label a competing firm wants to apply to it.

The only folks being “duped” are the ones who fail to see what the real problem here is.

• Nevin E. Adams, JD

 

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[i] See Talking Points: Third Time No Charm in ‘Forgotten Account’ Fantasy

[ii] Previously $5,000 – SECURE 2.0 increased that to $7,000.

[iii] Of course, those have wound up being described by another IRA provider as “forgotten.”

[iv] The WSJ article acknowledges that most employers do so since the cost to administer small-balance accounts generally drives up the plan’s administrative expenses.

[v] One wonders what she would have thought if that balance had been invested in something other than the conservative investments required by law during a bear market. Maybe relieved?