Nearly one third of total U.S. retirement assets are held in individual retirement accounts (IRAs), and rolling over assets from a 401(k) is the leading driver in the creation of IRAs. In fact, in 2014, about 70% of new traditional IRAs received rollovers, according to the Investment Company Institute.
It typically takes an event such as a job change or retirement to get savers, who want to remain invested, thinking about whether to roll over assets or leave them in an existing 401(k).
There are many considerations in this decision, and when the Department of Labor’s fiduciary rule takes effect in 2017, the new standard will require that certain advisors document how the rollover action is in the best interest of the client.
Many investors rolling over assets into an IRA want more control and the ability to consolidate retirement accounts.
A rollover IRA may provide:
- More investment and product choices, including guaranteed income products
- Control over the retirement account for the owner, which, if left with the employer, could be subject to blackout periods or other plan changes due to company mergers, restructuring, or plan dissolution
- A way to strengthen a retirement income strategy by making it easier for investors to determine a withdrawal rate, select the account to use for withdrawals, and establish a “stretch IRA” strategy for heirs, to extend tax advantages to future beneficiaries
- The ability to convert an IRA to a Roth IRA, which may not be an option with an employer-sponsored plan
There are also certain tax-code provisions offered by IRAs, including:
- Access to 72(t) withdrawals, which provide penalty-free early withdrawals using a specific calculation and distribution schedule
- The ability for investors at age 70½ to donate tax-free IRA withdrawals to a qualified charity
- The opportunity to execute a one-time funding of a health savings account (HSA) with IRA funds
- Access to funds without a 10% penalty for first-time homebuyers up to $10,000, or for qualified education expenses and health insurance premiums if unemployed and certain conditions are met
Keeping assets in a 401(k)
There are also many considerations for investors wishing to remain with an employer-sponsored plan or transfer assets to a new 401(k) plan.
An employer-sponsored defined contribution or 401(k) plan may offer investment options and cost-saving provisions that may not be available outside of the plan, including:
- Lower expenses, including special institutional pricing in some plans
- Access to loans for current employees
- An efficient transition to consolidate retirement savings when changing employers
- Access to investment options within the plan, such as stable value accounts, which may not be available outside of retirement plans
- Potential for low- or no-cost guidance through the plan
- Penalty-free distribution at age 55 (compared with 59½ with an IRA), if the investor left the company after reaching age 55
A 401(k) plan may also offer certain tax code and asset protection provisions, including:
- The ability to apply net unrealized appreciation (NUA) treatment when distributing shares of employer stock, which may result in tax savings
- Federal creditor protection outside of federal bankruptcy proceedings, which is not offered for IRAs in all states
- The ability to avoid the “pro rata” rule, which would result in taxation of a portion of a distribution, when funding a non-deductible IRA and converting funds to a Roth IRA
When considering the next move for 401(k) plan assets, it is important to consult a financial advisor or tax expert with knowledge of an individual’s financial situation and overall retirement plan. Getting professional advice can help investors understand the benefits and limitations of each option, as well as the provisions and strategies that may be unique to the different types of accounts.
For informational purposes only. Not an investment recommendation.
This information is not meant as tax or legal advice. Please consult with the appropriate tax or legal professional regarding your particular circumstances before making any investment decisions. Putnam does not provide tax or legal advice.