Should you rollover?

Quick Summary

  • If you have a 401(k) at work, you’ll have to decide what to do with the account if you leave your job.
  • One option is to roll your 401(k) into an IRA, but you have other choices.
  • Think carefully before making any decisions.

When you leave a job or retire, you have to decide what to do with the money you’ve saved in your 401(k). You usually have three options:

  1. Leave the money where it is.
  2. Roll the money into a 401(k) at your new company.
  3. Do an IRA rollover, where you roll the money into an IRA.

For most people, it makes sense to do a rollover of your 401(k) plan into an IRA. That way, you can save money on fees and get access to a greater variety of investments.

The Difference Between 401(k)s and IRAs

First, it’s important to understand the difference between 401(k)s and IRAs. With a 401(k), your company’s administrator runs the plan. They choose which mutual funds and other investments are available and set rules about withdrawals. If you have an IRA, you’re in charge. It’s easy to open an IRA at a bank, brokerage, or online advisor.

The big advantage of a 401(k) is the company match—if you have one—and the automatic deductions made from your paycheck. If you’re no longer employed with a company, those advantages disappear. So your decision should come down to which kind of plan helps you keep and grow your investments over time, how high the fees are, and how easy it is to manage your money.

401(k) IRA
Plan Run By Your employer You
Employer Match Often Never
Investment Options 28 (on average) 5,000+
Fees Variable, but set by the administrator Variable, but you have choices
Tax treatment Upfront tax break Upfront tax break for traditional IRAs; tax-free withdrawals for Roth IRAs

What Is a 401(k)-to-IRA Rollover?

An IRA rollover is when you move money from a 401(k) (or similar plan) to an IRA. When you do a direct rollover to a traditional IRA, you don’t need to pay taxes. Your assets and money just move from one type of account to another and you keep all of your tax benefits.

Should You Roll Over?

There are three things to consider when you’re deciding if a rollover is right for you:

  1. Fees.
  2. The range and quality of investments in your 401(k) compared with an IRA.
  3. The rules of the 401(k) plan at your old or new job.

It’s important to make a deliberate decision about a rollover. Don’t let inertia make the decision for you. Leaving your money in your old 401(k) could cost you tens of thousands of retirement dollars, or even more. On the other hand, if you have an unusually high quality 401(k) plan, it can be smart to keep your money where it is.

Fees: IRA vs. 401(k)

IRA accounts offered by big brokerages don’t typically have annual fees. However, most 401(k)s charge a percentage of assets, some as high as 2% a year. That might not sound like a lot, but it can take a big bite out of your nest egg. You can find out more about how much your 401(k) charges by asking your plan administrator or checking how it rates on Brightscope.com.

The mutual funds inside your 401(k) or your IRA come with their own price tags, too. Ask your 401(k) plan administrator to break out the fees for you and compare them to what you would pay on your IRA investments. Large companies sometimes get better deals on certain funds than you can get as an individual investor, but it’s highly dependent on your provider.

If you want more active counseling on your investments, your options will change. Some 401(k) plans include advisory services. Many brokerages have advisors that you can call, but if you want more complete financial advice, you may need to hire a financial planner. Brokers and advisors usually charge an advisory fee, which could be as high as 1% of your assets if it’s not a flat fee.

The Quality of Investments

Unless you work for a company with a very high-quality 401(k) plan—usually these are the big, Fortune 500 firms—you’ll probably find a better variety of investments in an IRA.

You can often buy an annuity through an IRA, for example. Annuities can give you an income stream during retirement in exchange for a lump sum paid upfront. Of course, you need to be careful to consider fees and the impact of inflation on your annuitized payments.

The Rules of the 401(k)

In general, most 401(k) plans follow rules based on your account balance. If you have:

  • Less than $1,000, your employer is allowed to cash it out and give it to you. The money will be subject to taxes.
  • Between $1,000 and $5,000, your employer can automatically put it in an IRA.
  • More than $5,000, you get to decide whether to leave it in the 401(k), do a rollover to your next employer’s plan, or do a rollover to an IRA.

Other rules may be more specific to your plan. For instance, some 401(k)s set limits on how easily you can withdraw money and how much you can withdraw at once. Ask your 401(k) plan administrator for your plan’s rules. If you’re changing jobs, ask at both the new company and the old company before you decide what to do.

Two Advantages of an IRA

If you chose the IRA rollover route, you can make contributions to the IRA and receive a tax deduction up to $6,000 ($7,000 if you’re 50 or older). You can contribute up to the limit as long as you have at least that much in earned income for the year.

If you need your retirement money in an emergency before you are 59 ½, it’s usually easier and faster to withdraw it from an IRA than a 401(k).

Two Advantages of a 401(k)

Some plans allow you to borrow against the money in your plan. In an emergency, this could be a good alternative to taking a taxable distribution.

Some 401(k)s also have higher protections against creditors if you declare bankruptcy.

Check with your plan administrator for the rules and your state’s laws.

Setting a Rollover Strategy in Your Working Years

If you’re younger, you should consider setting a rollover strategy. Americans change jobs about 11 times over their careers. If you’re smart, you participated in a 401(k) at every job, especially if your employer matched your contributions. Starting in 2019, you can put up to $19,000 into your 401(k)—$25,000 if you’re 50 or older—in addition to any match.

If you change jobs a few times, consolidating your savings by rolling them into a single IRA will make it much easier for you to manage.

If You’re Retiring: One Rule of Thumb

One good rule of thumb that can help simplify the decision about whether to do an IRA rollover when you are retiring: The larger your company and 401(k) plan, the cheaper and better it probably is. If you work for a large company, you can see where your plan ranks at Brightscope.com.

If you’re retiring now from a company with a superior plan and have just one large 401(k), give serious consideration to leaving the money where it is.

Best Places to Roll Over a 401(k)

Let’s say you’ve decided to move your money from an employer-sponsored 401(k) plan to an IRA that you control yourself. The mechanics of the rollover are easy: Your plan administrator will have paperwork for you to fill out. Once you have opened your IRA, he or she will handle the transfer. Let’s take a closer look at the bigger decisions to make and the points to consider.

Low-Cost Rollover Options

Your first decision is where to put the IRA: with a bank, brokerage, or an online financial advisor. One factor to bear in mind is the administrative and management fees each institution charges. Amounting to as much as 1% to 2% of your portfolio, these investment costs can eat away at your savings (it’s like the magic of compound interest, only working against you instead of for you).

Even worse, with most management fees, you never see them. They just get deducted from your account. Fees tend to be lower with online plan administrators because they have less overhead. But brick-and-mortar companies do offer face-to-face interaction (see more on customer service, below).

The particular funds you invest in carry fees and charges, too. But the good news here is that there are plenty of low-cost options among fund providers. And the costs keep coming down every year.

Big mutual funds and ETFs (exchange-traded funds) can now have annual costs of 0.15% or even lower. Fidelity, for example, offers 17 funds that have an expense ratio of 0.10% or less. These differences may sound small, but they really add up over time.

IRA Investment Options

The next important consideration is finding somewhere with good investment options that work for you. This is rarely about the number of choices. Most brokerages offer a wide range of options. E*TRADE, for instance, has more than 9,000 mutual funds, not to mention every stock and option that trades on the major exchanges.

The real question becomes how you narrow down these options and find the right fit for your needs. For many people, lifecycle funds (also called target-date funds) are a great choice. You chose a fund based on the year when you want to retire and the fund does the rest. It automatically chooses investments for you, rebalancing over time as you get closer to retirement.

A target-date fund may invest you more heavily in equities, for example, when you are 20 years from retirement since they offer better returns on average. Once you get closer, say within five years, the fund will shift to lower-risk investments, such as bonds, to preserve your return and start providing income.

While lifecycle funds have a professional fund manager deciding when to rebalance, a new class of “robo-advisors” relies on sophisticated computer algorithms to manage your portfolio.

Rollover Customer Service

The actual process of doing an IRA rollover isn’t all that cumbersome, but it can still be a bit confusing at times. And there can be complications or confusion along the way.

In these situations, you want to make sure there’s someone to help you with your rollover who is watching out for your best interests. First, if you are dealing with a financial planner or advisor, make sure that they’re acting in a “fiduciary” role. This means they are putting your financial interests first and they must help you find the best investments possible.

New regulations from the Department of Labor mandate that all advisors dealing with retirement accounts be fiduciaries, but it’s still best to check.

Many of the big brokerages also have special rollover help desks that can guide you through the process and assist you when you get stuck. Some even perform a complimentary, one-on-one portfolio review. Most financial firms really want your IRA business, so make them earn it.

Making a Decision

A 401(k)-to-IRA rollover occurs when you move the money from a 401(k) run by your employer to an IRA at a bank or brokerage that you control yourself. Most rollovers happen when people retire or change jobs.

A rollover usually doesn’t trigger taxes or raise tax complications, as long as you stay within the same tax category. That means you move a regular 401(k) into a traditional IRA, and a Roth 401(k) into a Roth IRA.

You should consider a rollover if it makes it easier for you to manage your money, helps you save on fees, or get access to better, lower-cost investment options. If you decide you want to do an IRA rollover, your next decision is where to open the account, and how to get the most bang for your IRA bucks.

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