- Rollovers from 401(k) plans to IRAs are common when employees retire or change jobs.
- More than 5.6 million people transferred funds to IRAs in 2020, according to IRS data.
- There are pros and cons to consider before moving your money.
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Every year, millions of people move money from their workplace 401(k) plans into personal retirement accounts.
Such “rollovers” are common when a worker leaves or takes a new job with another employer.More than 5.6 million people deposited a total of $618 billion into IRAs in 2020, according to the latest available information. IRS data.
Fred Reisch, a retirement expert and partner at the law firm Faegre Drinker Biddle & Rees, recently told CNBC that rollovers may be the “single biggest transaction” that many people make in their lives. told.
But determining whether a rollover makes sense is not always easy. There are many factors to consider before transferring funds. The Department of Labor recently proposed regulations that would improve the rollover advice investors receive from brokers, insurance agents and others.
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Of course, not all savers have a choice. Some 401(k) plans don’t allow former employees to keep money in the workplace plan, especially if the balance is small.
Here are some important details to consider when choosing whether to keep your money in a 401(k) or move it to an IRA.
Financial advisors say investment fees are a big consideration for rollovers.
Investment funds held in a 401(k) plan generally have lower costs than investment funds in an IRA.
This is primarily because IRA investors are “individual” investors, whereas 401(k) savers often have access to more favorable “institutional” pricing. Employers combine employees into her one retirement plan and have more purchasing power. These economies of scale generally result in lower annual investment fees.
c. estimates that rollovers to IRAs made in 2018 will cost investors a total of $45.5 billion over 25 years due to increased fund fees.
Of course, not all 401(k) plans are created equal. Some employers have tighter oversight of their plans than others, and retirement plans sponsored by large companies generally have lower fees than smaller ones.
“Can I reduce my payments by staying in my 401(k) plan?” says Ellen Lander, founder of Renaissance Benefit Advisors Group. “The bigger the plan, the louder the ‘yes’ will resonate.”
Bottom line: Compare annual 401(k) fees, including investment “expense ratios” and administrative costs, to IRA fees.
Savers may benefit from leaving their money in a 401(k) if they are happy with the investments.
Certain investments, such as high-yield cash or money market funds, such as guaranteed funds and stable value funds, are not available in IRAs, Lander said.
However, 401(k) options are limited to those selected by your employer. With an IRA, the menu is often more extensive.
“Consider whether your 401(k) is a good plan with diverse, low-cost investment options and fees,” says Carolyn McClanahan, a certified financial planner and founder of Life Planning Partners in Jacksonville, Florida. I need to do that.” She is also a member of CNBC’s FA Council. She added, “If that’s not a good plan, I recommend rolling it into your new girlfriend’s 401(k) or IRA.”
Ted Jenkin, an Atlanta-based certified financial planner and founder of oXYGen Financial, says that certain retirement investments, such as pensions, physical real estate, and stocks in privately held companies, are typically 401 ( k) stated that it is not available to savers.
Another consideration: While 401(k)s may have fewer investment options, employers have a “fiduciary” duty to create and continually monitor a list of the best funds for their employees. There is a legal obligation to be known.
Unless you work with a financial advisor who can act as a fiduciary and help vet your investments, you may not be able to put your money into the IRA fund that’s right for you. Too many IRA options can lead to choice paralysis and unfavorable decision-making, advisers said.
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Jenkin, a member of CNBC’s FA Council, said having multiple 401(k) accounts spread out across multiple employers can be difficult to manage. Also, her current employer may not accept rollovers from her previous employer’s plan to her 401(k).
Aggregating assets into one IRA can simplify managing your nest egg when it comes to factors such as asset allocation, fund selection, account beneficiaries, and required minimum annual distributions, he said. said.
“If you’re babysitting three kids in three different backyards, it’s hard to keep an eye on all three,” Jenkin says. “Having it all in one place makes it much easier to watch everything.”
Under federal law, investors typically have stronger creditor protections in 401(k)s than in IRAs, advisers say.
Lander says your 401(k) money is typically protected from garnishment if you go bankrupt or if you are sued by a civil lawsuit, say, from someone who fell and injured themselves at home.
Depending on the strength of state laws, your IRA assets may not be protected.
Lander said exceptions to 401(k) protection may apply to taxpayers in divorce proceedings or who owe money to the IRS.
IRAs typically allow investors to control the amount and frequency of withdrawals. Many 401(k) plans may not give retirees as much flexibility.
For example, in 2022, only 61% of 401(k) plans allow retirees to make regular or partial withdrawals, and 55% allow for installment payments, according to the Plan Sponsors Council of America, an industry group. was.
In such cases, Lander advises workers to contact their employer’s human resources department about the policy and possible modifications.
“That can be fixed quickly,” she said.
Workers who own company stock in their 401(k) can receive tax benefits by keeping it in the plan rather than rolling it into an IRA, Jenkin said.
This tax movement is known as “net unrealized appreciation.” Essentially, by holding stocks in your 401(k), you end up paying preferential capital gains tax rates (instead of regular income tax rates) on the growth of your investments when you withdraw them in retirement. It will be. If you put money into an IRA, this strategy is not an option.
“For people who believe in their stock and hold on to it for a long time, this is a big advantage,” Jenkin said.
Advisers say 401(k) savers who separate from their employers may be able to continue receiving loans from the 401(k) account they left behind. You can’t borrow money or take out loans from your IRA.
401(k) provisions are generally rare, with about 1% of plans allowing for new loans after retirement, according to PSCA data.
However, investors who can take advantage of this provision and are in a financial pinch can take advantage of a 401(k) loan. Lander said that assuming the repayment rules are followed, such people would be repaying the loan with interest and would not suffer any adverse tax consequences.
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