401k Rollover advantages and disadvantages

Do you have a 401k with a previous employer?  Does it make sense to do a 401k rollover to the new employer or should you roll it over to a traditional IRA with a different institution?  These are common questions employees are facing today.  So many advisors and institutions are so quick to tell you to rollover your 401k to them and convert to IRA, that they sometimes lose sight of the advantages of keeping the account titled as a 401k Plan with your current or new employer.  When it comes to your retirement planning it’s not the advisor’s job to place judgement on what choices you make for yourself.  It is their job to make sure you understand the advantages as well as the disadvantages of any recommendation they plan to give you or any decision you plan on making.

So let us break down some reasons why someone would or would not want to convert their 401k to an IRA.  I guess I will first start off by giving you the reasons why most advisors will tell you to convert your 401k over to their institution as an IRA.  The IRA will have more investment choices available to you.  The average 401k plan that we see might have 10 to 15 different mutual funds to choose from.  With an IRA you have thousands of choices with hundreds of institutions.  You have the world of mutual funds, exchange traded funds, stocks, bonds, annuities, and much more available to you.  So clearly the amount of choices are superior.  The other advantage is you have the opportunity to utilize Roth Conversion strategies.  You cannot convert a 401k directly over to Roth.  These are the common reasons you will get for doing the rollover.  They are perfectly valid reasons as well but depending on the client’s situation let’s look at the other side of the coin.

If the money stays as a 401k and you retire early at 55 you can take distributions from your 401k without the 10% penalty form IRS.  With an IRA you have to wait until 59 1/2 years of age.  The broker or advisor may tell you that you can do what is called a 72t which is an IRS code that will avoid the penalty before 59 1/2.  The calculation that the Internal Revenue Service uses for the 72t is nowhere near as flexible as the 401k.  With a 401k if you have an emergency or your buying a home you have the ability to borrow money out with no penalties from Uncle Sam.  So for example if I need some extra cash to buy a home I can borrow up to 50% or a maximum of $50,000 out of my 401k and have up to 15 years to pay it back.  Other emergencies will give you five years to pay the money back.  You cannot do this with IRAs.  Some people are working longer whether it is by choice or because they have to.  With an IRA you are forced to pull money out which is called a Required Minimum Distribution at 70 1/2  so Uncle Sam can start taxing you on this money.  With a 401k your Required Minimum Distribution date is 70 1/2 or when you stop working which ever is longer.  So if you plan on working past 70 it might be wise to keep your money in a 401k so you will not be taxed on it before your ready to pull the money out.  Before deciding on doing a 401k Rollover look at both sides of the equation and make sure it makes sense in your particular case.

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