Question of the Month - Should I Rollover My Old 401k?
Since the average American worker changes jobs 3-5 times throughout their lifetime, it is safe to say that there are quite a few 401k’s still sitting with former employers. The question is, “what should you do with those 401k accounts?” Unfortunately, there isn’t one perfect answer--it really depends on the individual. However, we want to explore the pros and cons of a 401k rollover and give our approach to this subject.
These days, many companies offer a 401k plan as an incentive to attract and retain talent. Participants in the plan make pre-tax contributions and the account can grow tax deferred. Additionally, 401k plans are often accompanied by employer matches, making them a great way to accelerate one’s retirement savings and reduce taxable income.
What happens when I leave my job, either voluntarily or involuntarily?
Most plans allow former employees to remain invested in the 401k plan, but they lose the ability to make additional contributions. The participant can still make investment changes by buying and selling different mutual funds offered in the plan and the account retains its tax deferred status. However, one no longer has access to any educational aspects that the plan administrator may offer to current employees.
Should I cash out of the plan when I change jobs?
Unless there is an immediate need for cash, cashing out is something that we advise against. Cashing out of the plan before the age of 59 ½ will incur a 10% penalty on all funds withdrawn, and all funds will be taxed like earned income at the current tax rate. If possible, it is best to avoid this option.
What are the benefits of keeping my 401k account?
One of the main benefits of a 401k is the ability to take a loan from the 401k that is not penalized as long as the loan is repaid within 5 years. This means that you can access the funds as a down payment on a house, for example, without having to pay the 10% penalty and income taxes. Some 401k plans eliminate this benefit if you are no longer with the employer however, so retention of this benefit is not guaranteed.
What are the benefits of rolling over a 401k into an IRA?
Rolling your 401k assets over into an IRA has a few advantages:
- A traditional IRA has the same tax advantages as a 401k account--pre-tax contributions and tax deferred growth.
- Aggregation of your retirement assets into one account to provide more focused and consistent management.
- A rollover IRA can be directly managed by your Financial Advisor.
- More investment options as 401k plans are typically limited to a small number of mutual funds. Rollover IRA’s can invest in stocks, bonds, mutual funds, etc.
In dealing with 401k plans, we typically advise clients to move their 401k assets into a rollover IRA as it enables our firm to actively manage those assets in concert with their other investment accounts. It allows us to easily determine allocation requirements, and to enact changes when the need arises.
Whatever you decide to do, it is essential that all of your investments work together to help meet your retirement goals. If you have the ability, time, and interest to manage many disparate accounts, then leaving your 401k assets where they are can be just fine. But, if you are like many people, who don’t have the time or desire to keep a watchful eye over their 401k assets (the set it and forget it crowd), then exploring a 401k rollover managed by your Financial Advisor might be the right move. If you’d like to talk to any of the Pathlight Investors’ Principals about this process, feel free to contact us at firstname.lastname@example.org or (602) 795-7600.