One of the most common questions I get from people when they find out that I like personal finance is “What should I do with my 401k/403b/457 plan from my old job?” My own 401k rollover decision process was one of my first blogging topics. I eventually settled on rolling my 401(k) balance into an IRA at Vanguard, although I have since changed my specific investment choices. This time around, my wife has the ex-401k that needs to be addressed, and so I think it’s a good time to do a more in-depth series on 401k (and similar) rollovers.
To start off, should you really move your retirement plan somewhere else? I think you’ll see that in most cases the answer is yes, but there are some possible benefits to staying put. Here are a few:
Special investment options
While many 401(k) plans offer very limited or expensive options, some of them actually offer investments that you may not be able to get anywhere else. For example, your plan may give you access to a mutual fund that is normally closed to new investors, a special institutional or pooled fund with super-low expenses, or the ability to buy your company stock at discounted prices.
Lower minimum balances or fees
One benefit of many 401(k) is that there are often no minimum balance requirements to invest in an offered fund. For example, my wife might have as little as $10 in a Fidelity Spartan index fund with a tiny 0.10% annual expense ratio while it is in her 401(k), but in an IRA the minimum would be $10,000. At the same time, the account may continue to waive all maintenance fees even after you leave (check with your administrator.) Depending on where you move your money to, other brokers may charge fees for low balances.
Together, it may be a good idea to keep smaller portfolios in such a 401k until the balance grows enough to consolidate with other investments.
Ability to take out loans
Although not necessarily a good idea, many plans do offer the option of being able to borrow money temporarily from your 401(k). This option is not available in an IRA.
I probably missed something, so if you have some more reasons not to move your retirement plan into an IRA, please share in the comments below.
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There are negatives from an estate planning point of view to keeping money in a 401(k) if you plan to leave part of the retirement fund to a non-spouse (such as a child). With a traditional IRA the non-spouse inheriter can convert the IRA into a Stretch IRA to avoid distributions and taxes.
While some plans allow loans to current employees, I’ve never seen one allowing loans to terminated employees. If they had a loan outstanding at the time of termination, the plan usually wants the balance paid off right away. Borrowing from a *fomer* employer’s 401(k) plan is going to be very difficult.
Special investment options – For funds that are closed to new investors, many of them will actually let you back into the fund if you show that you were in the fund in your 401(k) plan (using a statement, for example). One example is any of the Dodge & Cox funds. They are pretty popular with 401(k) plans but are closed to new retail investors. If you show them your statement, you can get back into the fund.
Ability to take out loans – Almost all 401(k) plans do not allow you to take loans if you no longer work for the sponsoring company. Otherwise, what paycheck would your loan repayments come from? Instead, this is a “potential advantage” of rolling over your money to your 401(k) plan with your current employer, as it would increase how much you can borrow (unless you already have $50,000 in your current 401(k) plan).
My wife quit her job after our first baby was born early this year. We still have a huge amount in her 401k which I was thinking of blindly moving it to Vanguard IRA. However, after reading this, I think we should do more research into it. Her old employer is a big company (I mean BIG!!) and she has access to really low ER funds. Thus, may be we should look deeper into it again. It may be more beneficial for us to leave it in her 401k.
I am also currently looking for other job and as such I started to think what to do with my own 401k when I leave my company in the future. With my 401k, I have access to American Funds. While their funds do not have low expense ratio, they are the biggest mutual funds company out there and considerably one of the best. I will surely have to do more research into it and your posting at least give me some direction on where I should head to.
I was under the impression that you lose the ability to borrow from your 401k when you leave the company. I.E. If you borrow for a home loan, but then you leave the company, you have to pay back the loan all at once. Am I mistaken?
I have kept one of my 401k plans intact at a previous employer because
1. Very low admin fees
2. Great selection of mutual funds
3. Easy-to-use interface to track performance of each fund and overall performance
4. Buy-ins to each mutual fund are waived – don’t need $2K to start, etc.
Another 401k plan I rolled into an IRA because:
1. Terrible investment options
2. Terrible interface to manage the account
3. Better investment options were available outside of the IRA
My husband has a 401K from his previous job, and we’re currently trying to decide what to do with it. Ben is right (at least in our case) that you lose the ability to borrow from your 401k when you are no longer employed at the company. And you do have to pay back your loans right away if you have a loan out and you leave the company.
I dislike my company’s 401(k) plan.
There is no match offered, and the plan is expensive–a 0.85% administrative fee on assets annually, *on top* of individual fund expenses. So if I want to invest my 401(k) in the S&P500 index–which I am doing–I have to use the one my fund offers, Dreyfus, which incurs another 0.5% annual expense. So I am guaranteed to under-perform the market by 1.345% per year!
I am wondering how feasible it is to rollover the assets *from* my 401(k) every year into a lower-cost Vanguard or Fidelity rollover IRA. The only question is whether my employer would have a problem with this. That way I can minimize the financial sting of the “compounding” annual fees, and still get the tax deferral benefit.
I also appreciated learning about the “Stretch” IRA from JT’s comments above.
I did keep one old 401k for about 5 years. The reason was that I had some wonderful investment options (mutual funds closed to the general public) and also the fees were nil.
However, honestly, after becoming more investment savvy I finally closed it. If there was just one stellar fund I REALLY wanted and couldn’t get elsewhere I would have kept it open. But I found a better/cheaper fund in the same category elsewhere and find many places will charge you no fees to hold a retirement account.
You bring a wonderful point though – as with anything you have to think through your particular situation when it comes to financial decisions. Maybe for 99% of people it is better to close an old 401k but there are always exceptions to the rule.
One things I did when I bought my first home was move my ex 401k money to traditional ira and then withdrew money from there without penality.
Now the law allows individuals to receive distributions from their traditional IRAs to pay up to $10,000 of first-time homebuyer expenses without incurring the 10% early withdrawal penalty that usually applies to withdrawals from a traditional IRA before age 59 1/2. But, even though the penalty is waived, you will still be required to pay taxes (as applicable) on the traditional IRA withdrawal itself.
More info at http://www.fool.com/money/allaboutiras/allaboutiras12.htm
Thanks for posting this as it brings up some important things to consider. Many people are too quick to dismiss a company plan and eager to move it out. While there are certainly a fair share of expensive and bad employer plans there are also a ton of very good plans as you have mentioned, typically come from larger employers who can afford to provide great funds.
But you’re right, some plans have fantastic fund offerings that aren’t accessible to the general public, and often times even if they are, the minimum investment requirements put them out of reach.
Anyway, good post and I’m glad you are making people aware that it isn’t always a cut and dry decision in every instance. Rolling it out may certainly be the way to go, but one can’t just assume that to be true all the time.
While not a financial reason, per se, I’ve always found the rollover to be a good option if for no other reasons than consolidating accounts. It’s just easier to manage using a single provider.
This isn’t a reason to stay put in your old employer’s plan, but a hint to plan carefully before you do a rollover if part of your 401k includes company stock. There may be favorable tax considerations when company stock is involved – do a Google search on “net unrealized appreciation” for more details.
One I kept in the place I left, and another I am going to roll over into an account here soon. Probably start the paperwork today.
I have never seen a plan that allows you to borrow once you leave the company, since repayment needs to come from payroll deductions
You guys are probably right about the loans no longer being available once you leave, I’m not sure if this is a federal requirement or just common practice.
Didn’t you do a write up on sunrocket voip?
I heard they imploded or maybe were acquired? Not sure, but either way I’ve been reading that their customers are without phone service.
Did you use their service? Is it working?
Take it easy.
One reason to remain in your old 401-k is to avoid the temptation to trade too much.
For long term investing, 10+ years, you only need an
S & P 500 index fund and a good international option such as Europacific, split 50-50, or maybe 60-40 favoring the S & P.
TT – If you are disciplined, then the difference can be in the millions. In 1998, I moved my 403(b) to my own company 401(k) and just bought AAPL. Every contribution went into AAPL. Apple wasn’t available from my 403(b) so if I had left it in the difference would be in the millions.
Another advantage of rolling into IRA is the ability to convert to Roth IRA in 2010 regardless of income.
There’s another reason to consider staying with a 401 plan: They are covered by ERISA, and I believe IRAs are not. I believe that ERISA prohibits a creditor from getting at your 401 assets. For an IRA, any protection from creditors will depend on state law. I think that many states protect IRA assets, and some protect Roth IRA assets. But if you’re at all worried about protection from creditors’ claims, you’ll need to check state law.
There is one very good reason to roll over to an IRA and it is especially important if there is a lot of money in the 401K and the person wants to leave this money to their children.
As I understand it, should the person with the 401K die, 401Ks have their own guidelines about how money will be distributed to beneficiaries. In fact, they may require that beneficiaries take it all in one lump sum. As you can imagine, this can trigger a huge taxable event. (This is more for kids than spouses… I think spouses can roll it into their own IRA.)
On the other hand, a traditional or Roth IRA left to an heir has different rules. The beneficiary is only required to draw down a portion of the bequeathed IRA each year depending on their own life expectancy at the time of inheritance. (If they had a life expectancy of 50 years, they would only be required to take 2% a year…)
This creates what the above person referred to as a “stretch” IRA. In this way, money can compound for generations tax free… When you run the numbers, it is impressive…
Imagine if someone had left you a million dollars when you were 20 and it could grow tax free while you only had to take out 2% each year…
I might be off on some of the specifics, but that is the general idea. The best known author on this topic is Ed Slott. He has a few books on this subject. One good one is called “avoiding the retirement time bomb”. The book gave me a bit of a headache actually and I love this stuff… Estate planning is actually pretty tricky business.
This is one reason to leave your ex-401k with your old employer’s (“Oldco”) plan instead of rolling into your new employers (“Newco”) plan.
So Oldco had a vesting period and when I left the company I was only 60% vested. The remaining 40% of Oldco?s match equated to roughly $10K. So if I were to roll that 401k plan into Newco?s plan I would have lost out on $10K in Oldco’s match (the remaining 40% that was not yet vested at the time of my departure). Instead, I’ve kept that money with the Oldco plan and the non-vested portion is still working for me and will continue to do so unless I roll it over into a new plan. So hypothetically I have $100K working for me instead of $90K if I were to roll Oldco?s plan into Newco’s plan and forfeit 40% of Oldco’s match.
Both plans have essentially the same investment options so there is no advantage for me to switch things around.
Any comments are welcome.
Fas – Are you sure you continue to vest even after you leave the company? This wasn’t the case for my old company.
Jonathan – No I don’t continue to vest. I will always be only 60% vested, but the unvested portion of my former employer’s contributions, 40% or $10K, remains in the account, hopefully appreciating as time goes on, until I close the account.
Fas:
How does that help. IME the employers match is calculated in it’s own separate pot, so whether you own 60% of 10,000 or 60% of 100,000, you still only own 60% of it. Including gains and losses. So if you took that 60% and invested it elsewhere in the exact same fund in an IRA you’d still end up with the same amount.
I see what you’re saying Justin. I guess I assumed that since I saw their match there in my account growing with the rest of my money I would be able to take the gains on the remaining 40% non vested match with me when I decided to close the account. This would be an easy loophole around the vesting system so I can see how someone else might have thought about this before me. Perhaps I was wrong about this clever, yet not thoroughly thought out plan… I think I agree with you. Thanks for the insight.
I agree with Justin, the money that is unvested stays in its own “bucket”. For example if it was $5,000 of unvested money that grew to $10,000, it’s still all of that $10,000 that you can’t touch, not just the initial $5,000.
However, I have heard of people mysteriously becoming vested even after leaving the company, whether due to some show of goodwill or simply poor accounting. I don’t know if that’s worth staying in one’s 401k if it is in subpar investments, though.
If I put money in 401k, my wife does take care of Kids and me. Can I put money in Traditional IRA for my wife.
Appreciate the reply
What do i do about my former employer taking too much time to allow me to take rollover my 401K?
I requested that my former employer start the paper work so that i can rollover the 401K to an IRA of my choosing. They said they are having vesting problems. Right now it shows all the money in my acocunt is fully vested. I want to take this out. It seem sas though they want to try to say i am not fully vested (i left the company on my own.) It has been over 2 months since i have requested that my rolloever start and i have not heard anything.
What can I do?
Can I close out my 401k and still remain with the company? I’m looking at retirement soon, but will still be on the payroll as a consultant. Can I take my 401k with me when I begin drawing my social security benefits?
You will never be able to take out a loan from a 401(k) plan unless you are a current employee. The method for payback of these loans is through payroll deduction, and without a paycheck, there’s no way to pay the loan back.
is there any way an individual can get ahold of nonvested balances after he/she leaves the company sponsoring the plan? Does the sponsor company remove the nonvested balance immediately or des it stay there until the account is closed?
Is there any risk of creditors accessing an IRA vs. 401k?…should that be considered as a good reason to not roll over if an IRA sounds best for me?
My friend has a 401-k or a 403-b from her previous employer, a local hospital. The hospital was bought by another hospital, but she was not allowed to roll the old retirement account to the new hospital’s 401-k.
The problem is the old hospital administrater is telling her she cannot roll the old 401-k to a trad. IRA and she is not permitted to make investment changes while they control it. Is this even legal?
Though it may not matter to many people here, one potential reason to keep funds in a 401k/403b is protection from creditors.
As I understand it, funds in an IRA are vulnerable to seizure by court order should you default on financial obligations, whereas 401k/403b funds are immune.