Why You Should Roll Your 401(k) to Your New Employer
September 19, 2016When changing jobs, what should you do with your employer-sponsored retirement account balance? Our blog editor, Erik Carter, JD, CFP®, recently wrote a post titled What Should You Do With That Old Retirement Plan, in which he stated that if he left an employer, he would be very likely to roll over his retirement account balance to an IRA in order to have access to more investment choices. Erik outlined a job-changing employee’s four options: 1) leave the money in the former employer’s plan, 2) cash out your account, 3) roll over your balance to a new employer or to an individual IRA or 4) purchase an immediate income annuity (if it’s a feature of your former plan.)
Option 3, rolling over your balance, is by far the preferable choice for the large majority of retirement savers. For most people, it may make more sense to roll their retirement plan balance to their new employer’s plan rather than an IRA. Here’s why:
Lower Fees
Many 401(k) plans offer participants access to institutional share class mutual funds and very low cost index funds, especially those sponsored by large employers. Conversely, investing in your IRA can get expensive if you aren’t careful to monitor the mutual fund fees, trading costs and account fees. Before you make your distribution decision, compare and contrast the fees for all your options, including leaving your account with your previous employer, rolling your balance to an IRA and rolling it to your new employer. Not sure which option offers you the lowest cost of investing, given the type of investments your want to choose? Use FINRA’s free mutual fund fee analyzer tool.
Keep it Simple
While it’s true that there is a broader universe of investment options in a self-directed IRA account at a brokerage firm or mutual fund company than in your workplace retirement plan, many investors don’t need or want that kind of customization in their investment strategy. Keeping your retirement plan balances in one place allows you to see at a glance the investment mix of your retirement savings and how much you’ve saved simply by logging on to one site. If you’re a more “hands-off” investor, a target date fund in your plan with a date near your target retirement can offer you an easy, diversified, one-stop-shopping investment strategy.
Protection Against Lawsuits
Balances in retirement plans, such as 401(ks), are protected against civil judgments and bankruptcy. (But if you owe taxes, your 401(k) assets can be seized to settle the tax debt – and you’ll have to pay more taxes and a 10% penalty if you take an early withdrawal to settle the bill.) The higher your income and/or net worth, the more important it is to consider this factor. However, depending on where you live, your state may not extend that protection to IRAs.
Borrowing Power
Many 401(k) plans permit participants to borrow from their plan assets at a very low rate of interest. If you roll your old plan into your new plan, you’ll have a bigger base of assets against which to borrow. (A common borrowing limit is 50% of your vested balance up to $50,000, but check with your plan administrator for the specifics of your plan.)
While the disadvantages usually outweigh the advantages in borrowing against your retirement plan, there are times when it may make sense, such as preventing eviction, foreclosure or auto repossession, paying off very high interest debt or putting 20% down on a home purchase to avoid PMI. Keep in mind that you’ll repay the loan with after-tax dollars so you’ll end up being double-taxed on the interest when you eventually withdraw it, and those funds won’t have access to market performance during the loan repayment period. Also, if you leave your company for any reason before the loan is repaid, your unpaid balance becomes a taxable retirement plan distribution, subject to a 10% penalty.
Workplace Financial Guidance
More and more companies are offering workplace financial wellness programs, where financial education and guidance are offered to employees as an employer-paid benefit. Can you attend a workshop or webcast, use an online learning resource or work one-on-one with a financial coach? More 401(k) plan sponsors also offer access to robo advice, where an online investment adviser service sets your investment mix based on your risk tolerance and time horizon and regularly re-balances your portfolio.
How about you? What do you think is a better idea: rolling an old retirement plan into an IRA or into your next employer’s plan? Email me at [email protected] or let me know on Twitter @cynthiameyer_FF.