Should you roll over a 401k to an IRA?
Here's what to consider when you're changing jobs and have to decide what to do with your retirement account.
This post comes from partner blog The Dough Roller.
I quit my job last month. After more than six years investigating the financial audits of public companies, I've decided to go back to the private practice of law. So after a summer sabbatical, I'll be returning to my old firm in August. And that raises one important question: Should I roll over my 401k to an IRA?
I've twice before had to make the same decision. The first time was when I left my law firm. I had two retirement accounts (one as an employee and one as a partner) with Fidelity. I left both accounts with Fidelity because I liked the investing options.
The second time was when I left an IT consulting firm. The investment options there were not so good, so I rolled over the 401k into an IRA with Vanguard.
Now I'm faced with the rollover decision for a third time. I'm certain I will roll over my 401k to my Vanguard IRA, mainly because of the lousy investment options in the 401k. Having spent some time researching this issue, I thought I'd share what I've found, along with some good resources for further reading. (Are you saving enough for retirement? Try MSN Money's calculator.)
Investment options within your 401k plan are the first and most important consideration. Many employer-sponsored plans have limited investment options. Other employers stuff their plan full of alternatives, most of which are bad choices. That's the problem with my last employer. While there are literally hundreds of mutual funds to choose from, all but one or two are just awful.
A related consideration is cost. It's not enough that a 401k offer sound investment opportunities. They have to offer them at a reasonable cost. My rule of thumb is to keep the weighted average cost of all mutual funds and ETFs to 0.50% or less. As I roll over my 401k and rebalance my investments this month, I'm going to try to get the total cost to under 0.20%. There's no way I could reduce the costs to this level unless I roll over my 401k. Post continues after video.
There are some tax implications to consider, particularly if you are planning a withdrawal before age 59½. As this article from Oblivious Investor explains, you may be able to make withdrawals at age 55 from a 401k without the 10% penalty. As always, consult your tax advisor before making any decisions.
It's much easier to manage fewer investment accounts. Change jobs a few times and throw in an IRA for good measure, and you'll find yourself managing more retirement accounts than you can handle. And rebalancing your investments across multiple accounts is a real chore, as I've learned firsthand. Between retirement and non-retirement accounts, and my accounts at Lending Club and Betterment, I feel like the guy trying to keep a dozen plates spinning on top of wooden sticks at the circus. Rolling 401k accounts into a single IRA reduces the number of spinning plates you have to keep from breaking.
There are two primary rollover options -- mutual fund companies and online brokers. Both are good choices. The best pick for each individual often depends on what investment choices they plan to make. If you plan to buy all Vanguard funds, for example, opening an IRA account with Vanguard will be the most cost-efficient option.
In the end, I believe that for most people most of the time, a rollover IRA is the best choice. But as with anything this important, weight the factors carefully and seek the help of a tax or investment adviser if necessary.
Here are some additional resources I found helpful:
- Emily Brandon of U.S. News & World Report recently published an informative article discussing IRA and 401k accounts. One interesting fact is that the vast majority of money in IRA accounts today came from 401k rollovers, not direct investments.
- Kathryn A. Walson at Kiplinger offers a helpful discussion of whether you should roll over a 401k. One factor she mentions is that with an IRA, you can withdrawal your money anytime you want, albeit with a possible 10% penalty. With a 401k, withdrawal options vary from one employer plan to another, and if you do take out money, you may be forced to take it all out.
- Pinyo over at Moolanomy gives you the nuts and bolts of rolling over a 401k to an IRA.
More on The Dough Roller and MSN Money:
If you don't have time to research though, I suggest keeping it in the 401k. At least in theory someone has done some work vetting your investment options. I know some are so bad you think they just picked them out of a hat but the theory is true for most decent companies. If nothing else, they usually get lower institutional fees. You can find better especially with index funds but it takes effort and some working knowledge.
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