Before making the decision to rollover of your 401k into an IRA, it is crucial to address one key factor. Discover the significant aspects you need to evaluate and why blindly following recommendations may not align with your long-term financial goals. Find out how considering this factor can make a difference in securing your financial future.
Discover the significant aspects you need to evaluate before finalizing the decision to rollover of your 401k into an IRA. Learn why blindly following the widely recommended suggestion to roll over may not always align with your long-term financial objectives. Find out how considering this crucial factor can make a difference in securing your financial future.
Wall Street has done a remarkably thorough job of brainwashing investors into rolling their old 401(k) accounts into individual retirement accounts.
IRA rollovers are certainly a better option than cashing out, which is the stupidest thing you can do with a 401(k) account other than not fund it in the first place. But moving money from a workplace retirement plan to an IRA when you switch jobs or retire can be a really lousy idea.
“In most cases, its not the best decision for retirement investors,” says investor protection expert Micah Hauptman, who serves as financial services counsel at the Consumer Federation of America. “But rollovers are a huge profit source for all financial services firms.”
Here’s what those financial firms are telling you, and why you should think twice before listening:
“Youll have more investment options.” Yes, and youll likely pay more for them — at least 30% more, based on asset-weighted averages for stock funds inside 401(k)s versus outside. The gap may be even wider, since large-company 401(k) plans typically have access to ultracheap institutional funds.
“You can consolidate your accounts.” Yes, you dont want to leave old 401(k) accounts scattered behind you as you leap from job to job to job. Youll likely pay too much in fees, and its hard to coordinate investments across multiple accounts. But if your current employers plan accepts transfers — and many do — that may be a better option than an IRA rollover.
“Youll have more control.” Yes, if youre a sophisticated investor with a nuanced understanding of asset allocation, more control can be a good thing. But you may just be a good target for a sales pitch. Your friendly financial services firm could steer your IRA investments toward high-commission options such as mutual funds with sales fees, variable annuities and nontraded real estate investment trusts.
Investments that come with such built-in conflicts of interest make up more than 20% of assets held in IRAs, according to the White House Council of Economic Advisors. People who receive conflicted advice when rolling over 401(k) balances to IRAs at retirement could run out of money five years earlier than those who dont, the economists said.
Financial services companies dont have to put your interests first. Your 401(k) plan sponsor, on the other hand, does have the fiduciary obligation to act solely in the best interest of plan participants and their beneficiaries. So you may not have as many investment options, but theyre likely to be better choices than whatever happens to pay your broker the highest commission the week that you roll your money over.
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When a rollover is the right choice
Sometimes plan sponsors dont do their jobs, of course, and it could be that your 401(k) plan stinks. Small-company plans are notorious for their limited options and high costs. Heres when you should think about bolting:
All your investment options cost 1% or more. The average total expense ratio for stock funds in 401(k) plans has dropped to 0.54%, so if youre paying a lot more than that, it may be time to move on.
You cant (or dont want to) transfer to your new employers plan. If the new plan isnt any better, it doesnt accept transfers or just doesnt exist — many companies dont offer 401(k)s — then a rollover to an IRA could be a reasonable choice as long as you pick a low-cost option. That could be a discount brokerage with an array of low-fee funds, or a robo-advisor, many of which can manage your money for a total cost of 0.5% or even less. Check out “Best IRA Accounts.”
“Ask for a side-by-side comparison showing the all-in cost of the proposed IRA investments versus the current 401(k) costs,” says Jeanie Schwarz, a personal financial planner at NerdWallet. “A rollover may be a better option, but the consumer should get all the facts and ask for a fee comparison.”
What a rollover can cost you
Before you pull the trigger on an IRA rollover, though, you need to understand the other disadvantages, which are numerous:
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No loans. You cant borrow from your IRA for more than 60 days once a year without incurring taxes and penalties. If you can roll your old 401(k) into your new employers plan, though, you typically can take out loans and pay yourself back.
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No early access. You normally cant tap your IRA before age 59½ without penalty, but money can be taken from 401(k)s penalty-free starting at age 55 if you leave your job.
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Less creditor protection. Your 401(k) has unlimited protection in bankruptcy court and against creditors claims. Your IRAs bankruptcy exemption tops out at $1,283,025, and protection from creditors claims varies by state. In my state of California, for example, only amounts “necessary for support” are exempted, which could be a lot less than the balance youve accrued. Most people wont get sued or butt up against these limits, but if youre a big saver or live in California, Georgia, Maine, Mississippi, Nebraska and Wyoming — or ever wind up living there — you should understand the risks. (Those states dont offer full protection to traditional IRAs, including rollovers. Some states — including Maine, Mississippi, Montana, Nebraska, West Virginia and Wyoming — dont offer full or any protection for Roth IRAs.)
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A huge tax trap with company stock. Roll your company stock over into an IRA, and youre giving up a big potential tax break since withdrawals will be taxed as ordinary income. If you instead transfer your company shares to a taxable account when you leave your job, youll owe income tax on the stocks original cost, but any subsequent growth can get favorable long-term capital gains treatment. The rest of your 401(k) can be rolled into another employers 401(k) or to an IRA. Ask your tax pro how to take advantage of this “net unrealized appreciation,” or NUA, feature.
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A chance to put off required minimum distributions. IRA money has to start coming out of your account after you turn 70½. If youre still working at that age, though, you dont have to begin distributions from your current employers 401(k) plan until you actually retire.
You may not hear about these disadvantages if you turn to a financial services firm for advice. Three years ago the U.S. Government Accountability Office mystery-shopped financial service call centers and found one-third immediately launched into a pitch about why rollovers were the right choice.
“Within 10 to 15 seconds, you have the call center representative trying to convince the caller [to roll over a retirement account] without any knowledge about the financial situation,” Hauptman says. You can hear some of the pitches on this video.
There’s a reason for those sales pitches: IRA rollovers arent just big business for Wall Street — theyre huge business. Most of the $7.6 trillion held in IRAs comes from rollovers, according to the Investment Company Institute. The amount rolled into IRAs in 2013 was nearly 13 times the amount contributed directly, according to the Employee Benefits Research Institute, and an earlier ICI study found that more than 90% of funds going into IRAs came from rollovers. More than $400 billion is rolling into IRAs from company plans every year as the baby boomers begin to retire, according to research firm Cerulli Associates.
If you need help managing financial goals like retirement, you might turn to a financial advisor. A fee-only advisor who follows the fiduciary standard of putting your interest first is a good choice.
And if you decide youve made a mistake with a previous IRA rollover, you may have a “do over” option. Some employer 401(k) plans accept transfers from IRAs in addition to transfers from other employers plans, Schwarz says.
Thanks to Source: https://www.nerdwallet.com/article/investing/think-twice-rollover-401k
rollover of 401(k)
