What Should I Do With My 401k?
A plan participant leaving an employer typically has four options with their retirement dollars. Get to know some of the pros and cons before making any decisions.
- Leave the money in the plan
Many plans allow the former employee to remain in the plan. This is typically the most expense-conscious decision you can make, but low expenses can also leave you wanting for investment options, service, and professional advice. If you’re weary of the expenses of taking the dollars outside the plan, consider speaking to a fee-based advisor who you can pay for advice, even if you’d like to keep your investments where they are.
- Rollover assets to your new employer plan
If you’re changing jobs, most plans allow you to move assets from your former plan into your new plan. This is a cost-effective option that has the added benefit of giving you less accounts to maintain. If you’re still in the accumulation phase, the limited investment menu of an employer-sponsored plan will usually be sufficient if you’re over 8 years from needing the money from retirement. If you’re closer to retirement, it may be in your interests to have more options to manage risk.
If you wish to consolidate former employer assets into a single plan before you retire, make sure that you do so as some plans will not accept outside assets once you retire.
- Cash out the account
Taking the money out of the account is usually the road least taken of all plan options. Of course, if you absolutely need the money you must be aware that any tax deferred dollars in the plan will be taxable as income. Also, if you remove money from a qualified plan before the age of 59 ½, there can be a 10% penalty on the entire tax deferred balance and the gain from the after-tax contribution as well. It is highly recommended that yourseek the advice of a CFP® and a CPA before giving more money to the IRS that you need to.
- Rollover the money into an IRA
You can move assets directly from an employer sponsored plan (such as a TSP, 401k, 403b, and 457(b)) without causing a taxable event. These options often have expenses associated with them that should be carefully weighed against the benefits. The fees can vary widely based upon the types of investments being used and whether they are being self-directed or professionally managed.
Rollover to an IRA so you can convert to a Roth IRA
Many company-sponsored retirement plans still do not have a Roth contribution option. In instances where the Roth is available, it may not be possible to move taxable dollars to the Roth option within the plan. Depending on your individual situation, it may make sense to selectively pay taxes on the seed rather than grow taxes for the government at unknown future rates.
For retirees who no longer have earned income, understand that there is not an income requirement to convert to a Roth IRA from existing Traditional IRA assets. Also, keep in mind that conversions accelerate taxes, and this can make sense depending on your individual situation. These decisions are complicated and should be made in cooperation with a CPA and a Certified Financial Planner®. Because tax laws and individual circumstances change, the decision to convert should be revisited annually in the context of changing circumstances.
Rollover for access to a broad array of investment options or professional oversight/advice.
Whether or not you rollover to a self-directed IRA or and IRA with a financial advisor should be carefully considered. See below for guidance on rollover IRA’s from the Finanancial Industry Regulatory Authority (FINRA) https://www.finra.org/rules-guidance/notices/13-45
A recommendation to roll over plan assets to an IRA rather than keeping assets in a previous employer’s plan or rolling over to a new employer’s plan should reflect consideration of various factors, the importance of which will depend on an investor’s individual needs and circumstances. Some of the factors include:
- Investment Options—An IRA often enables an investor to select from a broader range of investment options than a plan. The importance of this factor will depend in part on how satisfied the investor is with the options available under the plan under consideration. For example, an investor who is satisfied by the low-cost institutional funds available in some plans may not regard an IRA’s broader array of investments as an important factor.
- Fees and Expenses—Both plans and IRAs typically involve (i) investment-related expenses and (ii) plan or account fees. Investment-related expenses may include sales loads, commissions, the expenses of any mutual funds in which assets are invested and investment advisory fees. Plan fees typically include plan administrative fees (e.g.,recordkeeping, compliance, trustee fees) and fees for services such as access to a customer service representative. In some cases, employers pay for some or all of the plan’s administrative expenses. An IRA’s account fees may include, for example, administrative, account set-up and custodial fees.
- Services—An investor may wish to consider the different levels of service available under each option. Some plans, for example, provide access to investment advice, planning tools, telephone help lines, educational materials and workshops. Similarly, IRA providers offer different levels of service, which may include full brokerage service, investment advice, distribution planning and access to securities execution online.
- Penalty-Free Withdrawals—If an employee leaves her job between age 55 and 59½, she may be able to take penalty-free withdrawals from a plan. In contrast, penalty-free withdrawals generally may not be made from an IRA until age 59½. It also may be easier to borrow from a plan.
- Protection from Creditors and Legal Judgments—Generally speaking, plan assets have unlimited protection from creditors under federal law, while IRA assets are protected in bankruptcy proceedings only. State laws vary in the protection of IRA assets in lawsuits.
- Required Minimum Distributions—Once an individual reaches age 70½, the rules for both plans and IRAs require the periodic withdrawal of certain minimum amounts, known as the required minimum distribution. If a person is still working at age 70½, however, he generally is not required to make required minimum distributions from his current employer’s plan. This may be advantageous for those who plan to work into their 70s.
- Employer Stock—An investor who holds significantly appreciated employer stock in a plan should consider the negative tax consequences of rolling the stock to an IRA. If employer stock is transferred in-kind to an IRA, stock appreciation will be taxed as ordinary income upon distribution. The tax advantages of retaining employer stock in a non-qualified account should be balanced with the possibility that the investor may be excessively concentrated in employer stock. It can be risky to have too much employer stock in one’s retirement account; for some investors, it may be advisable to liquidate the holdings and roll over the value to an IRA, even if it means losing long-term capital gains treatment on the stock’s appreciation.
These are examples of the factors that may be relevant when analyzing available options, and the list is not exhaustive. Other considerations also might apply to specific circumstances.
No matter what… Get Organized!
Having multiple IRA’s and 401k’s can be difficult to track and maintenance. The scenario of having these scattered accounts can feel “investment potluck” and it eventually leads to headaches that can easily be resolved by combining your retirement accounts into a single IRA or employer sponsored plan.
Consider the following problems:
- Do you want to leave a more complicated estate to your executor and have them deal with multiple custodians?
- Do you want to get multiple statements every month and multiple 1099-R’s to do your taxes? Do you want to gather all these documents every time you want a thorough financial review from your CPA, CFP®, or Private Banker?
- Imagine changing beneficiaries, bank drafts, or managing the responsibilities for your required minimum distributions?
Creating an income plan and taking distributions from various sources in a constantly changing tax environment is complicated. Consider meeting with a CFP® to help you build a professional team around your finances and reduce or (in some cases) completely avoid income and estate taxes.
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