Leaving Default Options in Retirement Plans Can Warp Asset Allocation and Raise Fees

TL;DR

• Leaving default options in retirement plans can result in asset allocations that differ from your intent, underperformance versus expectations, and unnecessary fee burdens.
• Even beginners can follow five steps: check accounts, review products, set a rebalance plan, and contact the plan manager or employer if needed.

What is a default option

A default option is the management approach or product a financial firm or employer selects automatically when the participant gives no instruction. If the participant does not provide separate directions, funds are allocated according to a preset portfolio or model. The policy aims to prevent neglect and ensure basic management, but it can differ from an individual’s investment preferences or goals.

Main problems from neglecting it

1) Asset allocation mismatch: If the default option is set conservatively or aggressively, it can be inconsistent with your retirement timing and risk tolerance.
2) Expected returns and risk: Long-term returns can diverge depending on the costs and composition of automatically enrolled products.
3) Fee and cost burden: Some default options may have higher management fees or other charges.
4) Tax and withdrawal impact: Tax treatment and withdrawal implications vary by individual circumstances, so confirm the latest rules with your broker or tax authority.

Stepwise checks and actions for beginners

Step 1. Check accounts and product status

• Verify for each workplace retirement plan or individual retirement account (IRP) the current invested products and whether a default option applies.
• Obtain statements from the financial firm’s app or website, or from your employer’s HR contact.

Step 2. Clarify goals and risk profile

• Briefly note expected retirement age, risk tolerance (conservative, neutral, aggressive), and potential for additional contributions.

Step 3. Compare product composition and costs

• Check asset allocation and management fees of the funds, ETFs, and bond products currently invested.
• Compare similar alternative products on costs and performance to see if the current structure is advantageous. Always verify specific tax rates, limits, and rules against current standards.

Step 4. Establish a rebalance plan

• Create rules to rebalance annually or at key inflection points (market shocks, life stage changes).
• Check for automatic rebalancing features and set them if appropriate.

Step 5. Execute changes and inquiries

• If you can change settings yourself, submit instructions via the financial firm’s website or app.
• For employer-managed plans, ask HR, administration, or the appointed plan manager about procedures.

Checklist and cautions

• Regular review: Check account statements and investment status at least once a year.
• Keep records: Retain records of changes and notices.
• Consult a professional: For complex questions on plans or taxes, seek advice from brokers, banks, or tax professionals.

This article is for information only and is not investment advice.