Should I Roll Over my 401(k)?

When you leave a job or retire, you must often decide what to do with the money you have in your employer-sponsored 401(k) or other retirement plan. Depending on your specific circumstances, you may have four different options to consider: (1) In most cases if you are younger than 59 ½, the option to cash out your 401(k) plan is probably not your best choice as your distribution would be treated as taxable income and would be subject to a mandatory tax withholding of 20% and an early withdrawal penalty of an additional 10%. (2) When some people leave their job or retire, they choose to leave their money behind in their old 401(k) plan.  (3) If you are moving to a new job, you may decide to transfer your savings from your old 401(k) into the 401(k) of your new employer. (4) A fourth option is a rollover of your savings from your 401(k) into an individual retirement account or IRA.

A direct rollover is when you instruct your plan administrator to make a payment of the money in your 401(k) plan directly to your IRA account. In a direct rollover, the distribution is transferred directly by the employer-sponsored plan to the employee’s IRA and is never actually transferred to the employee individually.  A rollover preserves the tax-deferred status of your retirement assets, allowing you to avoid current taxes and early withdrawal penalties on the rollover distribution.  In contrast, an indirect rollover is when the employer-sponsored plan makes a distribution (or payment) directly to the employee, the size of which distribution is decreased by the mandatory 20% withholding tax.  In the case of an indirect rollover, you then have 60 days to deposit all or a portion of the distribution in an IRA or other qualified retirement plan.

Each of the four options listed above (cash out, leave, transfer and rollover) offers distinct advantages and, in some cases, disadvantages.  When you weigh the following advantages of a rollover, you may consider that it is a viable option for you. In our opinion the advantages are:

  1. Freedom – With an IRA, you will have a wider range of investment options available to you. Many 401(k) plans limit employees to a list of average performing mutual funds with high fees and expense ratios and prohibit the purchase of individual stocks or low cost exchange traded funds (ETFs).  With your IRA you can build a portfolio that better matches your vision and market expectations. 
  2. Control – Many 401(k) plans have restrictions, such as limitations on how the employer contribution portion of the account can be invested.  From your perspective, once you leave a job or retire the origin (you or employer) of your retirement assets is not relevant, your top concern is selecting the best performing assets that strategically align with you and your investment goals. With an IRA you can choose to maintain an appropriately sized allocation of the stock of your former employer only if it makes sense for you. (Think Enron!)
  3. Simplify – The average worker of today will work for several employers in the years leading up to his/her retirement. Consolidating old employer-sponsored plans and IRAs into one IRA will lower management fees along the way and allow all retirement assets to be managed under one asset allocation plan.  Once you reach age 70 ½, you must consider how required minimum distributions (RMDs) fit into your retirement withdrawal strategy. Having consolidated your old plans and IRAs will make this task a far easier one to manage. 
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