The pros and cons of an IRA rollover
I recently participated in a live webcast attended by a number of Vanguard retirement plan participants. The topic was retirement investing, and questions came fast and furious. We answered as many as we could in our allotted 30 minutes.
One question we didn’t get to: What are the plusses and minuses of keeping money in a 401(k), as opposed to rolling over to an IRA? It’s unfortunate that we didn’t have time to discuss this, as it’s an important question, and the answer can vary depending on what’s going on in your life.
Leaving your job—voluntarily or otherwise—typically gives you the option of leaving your vested retirement plan contributions where they are or rolling them into an IRA. You could also cash out, but doing so means paying income tax on the withdrawal, as well as penalties if you’re under age 59½. If you’re moving on to another job, it may also be possible to roll your old 401(k) into your new one. You don’t have to make a decision immediately, but since your contributions to the old 401(k) end when your job does, you can’t take a loan from your account, and you must repay any outstanding loans in full to avoid owing taxes on the balance.
If you’ve changed jobs frequently over the years and haven’t done anything with your retirement savings, you probably have accounts spread across a number of institutions. There’s a good chance you’re getting a steady stream of mail from each institution apprising you of your account balances, changes in fund lineups, statutory notices, and so on. In situations like this, it’s easy to overlook your beneficiary designations, or even to lose track of your money. That’s one reason consolidating your assets into an IRA is so attractive—you’ll know where everything is, and you’ll find it a lot easier to keep an eye on your asset allocation.
A counterargument: Many retirement plans offer funds or services more cheaply than what you’d find by “shopping” as an individual investor. If so, you might consider leaving your plan contributions where they are. Make sure to compare expense ratios and other fees before you decide.
Still, an IRA will probably offer you a much broader choice of investments. IRAs also have a wide array of withdrawal options for you and your family. You won’t avoid income taxes, but you can avoid penalties—and you won’t have to worry about ever-changing plan rules or deal with your former employer when it’s time to access your funds.
Another potential advantage: IRAs can, subject to very specific IRS rules, be tapped penalty-free for college expenses, health insurance premiums, or the purchase of a new home. And if you’re retiring early, say at age 50, you can set up “substantially equal periodic payments” from an IRA without penalty. (If you retire at 55 or later, 401(k)s provide penalty-free withdrawals without the need to meet the SEPP requirement. This particular withdrawal benefit is not available with an IRA.)
So, I’m curious about your experience with rollovers. How have you handled the decision? How has it worked out? And is preserving your investment options more important than reducing your expenses?
Notes:
- All investments are subject to risk. Consider consulting a tax advisor concerning your individual situation.
- When taking withdrawals from an IRA or qualified plan before age 59½, you may have to pay ordinary income tax plus a 10% federal penalty tax.
- The link to IRS.gov will open a new browser window. Vanguard accepts no responsibility for content on third-party websites.
I am retired and past 59 1/2. I chose to rollover my 401k to my existing IRA, but fortunately have not yet needed to make withdrawals. My investment options are diversified.
1) one advantage: my company’s rules for its 401k required that when withdrawals were made, it had to be proportional across all the separate funds (eg, including equity funds in a down market), whereas within the IRA, I can choose specifically which fund to withdraw from (eg, bond funds).
2) one disadvantage: my company’s 401k had a “stable value fund” as an investment option, whereas these are not available in IRAs.
I moved my 401k (it was with Vanguard) to a Vanguard IRA this year and a couple of years ago when I switched jobs because I was going to get laid-off. The 401k did not have very many funds to choose from (not enough index funds!). I now have some of it in an Admiral fund, so the ER is less than what they offered in the 401k versions. So far it has worked out well.
When I retired in 2003, I rolled my 401(k) to my Vanguard IRA. This is because the funds used by the 401(k) charged higher management fees than Vanguard. Also, since I already had a Vanguard IRA, transferring the 401(k) gave me more flexibility in rebalancing my investments (including investments in funds that were closed but in which I already invested).
When my wife retired in 2007, she also rolled her 401(k) to her Vanguard IRA for similar reasons. In her case, the management fees for her 401(k) were outrageous.
Also, when I retired, I chose a lump-sum payout of my defined-benefit retirement plan, rolling it too into my Vanguard IRA. The lump-sum amount was equal to the present value of a monthly annuity. Since interest rates were very low at the time, the present value was quite high; and the amount was substantial.
When my husband & I left our jobs at large employers, we initially left our money in their 401(k) plans for the same reasons you mentioned, their expenses tend to be low. After 4-5 years, we thought about it again, and we decided that we didn’t have a good idea of our portfolio diversification. Especially since the funds in the employer 401(k)’s kept changing names. Also, our former employers kept changing the companies who managed the funds. We then rolled over all of our money into IRA’s.
We will never regret our decision. My former employer has filed for bankruptcy. They are going to sell parts of the companies at bankruptcy auction. I wouldn’t have slept at night if my 401(k) assets had been tied up in these proceedings. I don’t know if that would have happened, but I’m glad I took my money out.
I’m 55 and not yet retired. I changed companies 10 years ago and would like to know if it’s too late to move my 401(k) from my previous company into a Vanguard IRA. The main reason would be consolidation and ease of account management. If it’s not too late, how do I start and what paperwork is required?
At 55 and separated from a company you can withdraw from your 401 and qualify for a tax exclusion from the 10% withdrawal penalty. Not so for IRA withdrawals at 55.
I recently retired and rolled my 401K from a Vanguard 401K to a Vanguard IRA. The main reason is I wanted to do this in a relatively low income year as I took direct distribution of the stock in my former employer’s 401K plan. This year I pay the income taxes on the value of the stock when it went into the 401K. Once I wait for a year, I will pay capital gains rates when I sell my former employer’s stock. I also want my entire retirement plan under one umbrella prior to turning 70 1/2 and taking RMD’s.
I currently only have a regular Vanguard IRA account. However, when I retire later this year, I would prefer to roll over my union’s Fidelity 401k into a new Roth IRA account. Is this possible?
Note: My reason is that I intend to have three type of retirement accounts to provide manuverability: tax-deferred (regular IRA), tax-free (Roth IRA), and soon-to-be taxable account (with most of that fund’s returns coming from unrealized capital gains or rising share price).
Vanguard should make the retirement trust stable value fund available to roll-over IRA customers. At least for those able to make a substantial minimum amount and/or agree not to withdraw for a minimum period (say 6 months or 12 months).
That stable value fund is the main thing I miss as a roll-over IRA customer.
I am 55 and retired 4 months ago. The SEPP requirement concerns me. If I roll my Vanguard 401K into a Vanguard IRA I will loose the ability to withdraw before 59 1/2 without penalty, correct?