George Papadopoulos saw an opportunity when his wife's employer made big changes to her company's 401(k) plan.

In addition to offering a list of mutual funds for employees to choose from, the company also added a "self-directed" 401(k) option to the retirement plan.

Papadopoulos jumped at the chance to gain more control over the couple's retirement savings.

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"Self-directed 401(k) options are great for experienced investors like myself," says Papadopoulos, a certified public accountant in Novi, Mich. "Before, the quality in the lineup of funds available continued to deteriorate."

A self-directed 401(k) offers the same benefits of pre-tax savings and automated payroll deductions that you'll find with a traditional 401(k) plan. The difference is in your investment choices.

A self-directed plan is similar to a brokerage account. It's essentially a do-it-yourself 401(k), and you're the fund manager. Rather than choosing 401(k) investments from a short menu of pre-approved mutual funds, participating employees have an entire universe of investments to consider.

In 2011, 29% of workplace retirement savings plans offered self-directed brokerage options, up from 26% in 2009 and 18% in 2007, according to a recent survey by the Aon Hewitt consulting firm.

Maybe your employer plan will be next. Here's what you should know when weighing your investment options.

1. Consider your investment know-how and comfort level.  Most 401(k) plans offer a short list of mutual funds. Some may be good, and others may be lackluster performers.

A self-directed 401(k) dramatically expands your playing field. Rather than selecting funds from a short list provided by an employer, you can invest in a variety of stocks, bonds, mutual funds and even some less-than-traditional investments, such as real estate and tax lien certificates -- depending on the limits set by the plan.

Taking the self-directed option means the responsibility for creating a smart and thoughtful retirement nest egg is in your hands.

"The advantage is the employee will have a much broader array of investment options," says Michael Maye, a certified public accountant in Berkeley Heights, N.J.

But that means you have to investigate and understand what's available to you, and figure out what investments make the most sense for your financial plan. Papadopoulos and his wife selected a portfolio of Vanguard exchange-traded funds, which he says fit in nicely with their overall investment plan.

But for less savvy money managers, he says the self-directed option can be fatal.

"It is very difficult for inexperienced investors to hold off on their greed and fear emotions," Papadopoulos says. "When they see the E*TRADE baby trade, they will likely get over-confident and eventually hurt themselves."

2. Proceed with caution.  A self-directed 401(k) gives you thousands of options. For a seasoned investor who is used to doing financial research, that's a good thing. But if you're a novice, assessing a world of mutual funds and stocks can be overwhelming.

Start by considering how much time you have until you need the money -- your expected retirement age. Then think about how much risk you're willing to take. Can you own aggressive investments without losing sleep, or do you need something more stable before you're comfortable? Your time horizon and your risk tolerance should be the deciding factors when you choose what kinds of 401(k) investments are right for you.

Try the Kiplinger risk tolerance test to see where you stand.

If you're tempted to buy individual stocks, make sure you'll have the time to babysit them. A self-directed plan may also open the door to nontraditional and sometimes dicey investments. You should avoid these, advisors say, because your retirement plan is not something to gamble with.

"The main disadvantage from my perspective is many nontraditional investments used in a self-directed plan may lack liquidity and transparency, which is a concern," Maye says. "It is much easier to perform due diligence on a mutual fund, exchange-traded fund or a stock."

"Bottom line? I would not put 100% of my 401(k) into esoteric asset classes," he says.

If you're the type of investor who has a hard time choosing investments from a traditional 401(k) menu list, you should opt out of the self-directed option entirely. Or if a self-directed plan is your only workplace offering, consider basic mutual funds or exchange-traded funds that fit into your asset allocation and are offered by reputable and low-cost firms such as Fidelity, Vanguard and Schwab.

"Stick to the basics by choosing the more traditional investment options available," Maye says.

3. Add up the fees. If you decide to forge ahead with a self-directed plan, you need to pay close attention to fees.

Every dollar you pay in fees, whether it's for a 401(k) or any other type of investment account, will lower your overall rate of return. If you trade too often, you'll have higher fees.

The cost of self-directed plans varies based on what your employer has negotiated for your company. Some plans may have an annual maintenance fee. Some have per-trade fees, and those can vary depending on the investment or the number of shares you want to buy. Some may have no fees at all.

When Papadopoulos did his homework, he learned that his wife's self-directed plan costs $100 per year and $15 per trade.

Self-directed plans will almost always have higher fees than a traditional 401(k), but the fees will depend on how you, as the employee, choose to invest your savings.

Those who decide to trade stocks, for example, will incur more trading fees than those who choose to buy and hold mutual funds.

"It may lead to excessive trading, which usually means subpar investment results, and in some cases, when individuals get out of hand -- think dotcom stocks -- to lethal results," Papadopoulos says.

Schwab's data shows that most retirement plan investors favor mutual funds or index funds over individual stocks. And really, how much trading needs to be done once you've carefully selected a portfolio of mutual funds? Very, very little.

SecondAct contributor Karin Price Mueller is an award-winning personal finance and consumer writer with The Star-Ledger and other publications. She lives in New Jersey with her husband, three children and two guinea pigs. Whatever they don't eat goes into her retirement savings accounts.

 

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