What to do with your 401(k) when you retire or leave your job is a major decision. Sometimes it’s better to keep your employer’s retirement plan instead of rolling over to an IRA. This article will explore the key considerations in deciding whether to use a 401(k) rollover or keep your savings in your employer’s plan.
Understanding Your 401(k) Rollover Options
When you leave a job with a retirement plan, you typically have four options for your existing 401(k) balance:
- 401(k) Rollover to your new employer’s plan: This can be an attractive option if your new job offers a retirement plan that allows for a 401(k) rollover into their plan. It may provide you with access to low fees, favorable investment options, and loan availability.
- 401(k) Rollover to an IRA: Rolling over your 401(k) into an IRA allows you to maintain the tax advantages of your old plan while giving you a wider range of investment options. Additionally, consolidating your retirement savings into one account can simplify financial management. Key planning point: It is best to maintain separate accounts for your personal IRA and a 401(k) rollover. In the event that you intend to revert a 401(k) rollover, which has been converted into an IRA, back to a 401(k), it is important to ensure that the funds are not mixed with your personal IRA.
- Cash out: Cashing out your 401(k) should generally be avoided unless you urgently need the funds. It can result in income taxes and a 10% early withdrawal penalty if you’re under 59½ years old.
- Leave your plan in place: If you’re not ready to decide, you can leave your 401(k) in your former employer’s plan. However, be aware of any restrictions or downsides, such as limited access to the plan administrator or maintenance fees. We’ll discuss this more in this article.
The Case for Not Taking a 401(k) Rollover
While rolling over your 401(k) to an IRA may seem like the default choice, recent research and expert opinions suggest that sticking with your employer’s plan can have advantages. Let’s explore some of the key reasons why:
Access to Stable Value Funds
One significant advantage of staying in your employer’s plan is the availability of stable value funds. These funds offer guaranteed interest rates and can be a safe choice for conservative investors or those nearing retirement. In contrast, IRAs often offer only money market funds, which typically have lower yields. By keeping your funds in your employer’s plan, you can continue to benefit from the stability and higher returns provided by stable value funds.
401(k) Annuity Options
The advantage of a retirement annuity option offered by an employer 401(k) is the guarantee of a steady income stream during retirement. By choosing the annuity option, you can receive regular payments for the rest of your life, ensuring financial security and peace of mind. This option is highly beneficial for individuals who prioritize a consistent source of income and prefer not to manage their own retirement funds or face the possibility of insufficient funds. An annuity provides a reliable source of income that can supplement other retirement savings and help maintain your standard of living throughout your retirement years.
Fiduciary Responsibility of Employer Plans vs a 401(k) Rollover
Employer-sponsored retirement plans, including 401(k)s, are subject to fiduciary responsibilities. Plan sponsors, usually your employer, are legally obligated to act in the best interest of the plan, the participants, and their beneficiaries. The investment advisors associated with these plans are also likely to be fiduciaries.
On the other hand, when working with an IRA advisor, there is a different type of fiduciary responsibility. While the qualified plan trustee and the financial advisor have fiduciary duties, their scope and focus may differ. The qualified plan trustee is responsible for the overall management and administration of the retirement plan, ensuring its compliance and the welfare of plan participants.
On the other hand, the financial advisor for a rollover primarily focuses on providing investment advice and recommendations to individual clients, with a specific emphasis on acting in their best interest and disclosing any conflicts of interest.
The Best Interest Regulation is a relatively new standard. There is a long history of the standard of care that company retirement plans take compared to that of 401(k) rollover. Time will tell if the Best Interest Regulations’ has as much effect as an employer’s fiduciary duty.
Historically, more advisors have made investment recommendations that are more advantageous for themselves than for their clients. While not the case in every plan, staying in your employer’s plan can potentially avoid potential conflicts of interest and receive objective investment advice. But there again, the regulation to level the field is in place. But it’s too new to tell if it is truly equal.
Superior Performance of 401(k) Plans
Studies have shown that 401(k) plans often outperform a 401(k) rollover to an IRA regarding investment returns. According to the Center for Retirement Research, the average 401(k) plan return over 12 years was 3.1%, compared to just 2.2% in an IRA. While these returns may not lead to early retirement, the 401(k) plan participants experienced a nearly 41% higher return than those with IRAs. But with such a disparity it is important to state that past performance is not a guarantee of future results.
The superior performance of 401(k) plans can be attributed to several factors, including access to lower-cost institutional funds and the expertise of plan sponsors in selecting investment options. By keeping your funds in your employer’s plan, you may have the opportunity to benefit from higher returns and potentially grow your retirement savings more effectively.
Plus, the nature of an employer’s retirement plan being out of sight and out of mind may have a significant impact on its long-term performance. People are better at not tinkering with their employer retirement plan investments than they are with individual accounts.
Lower Fees and Unique Investment Options
One of the main reasons for the performance differential between 401(k) plans, and a 401(k) rollover to an IRA is the difference in fees. If you’re reading this and think that it is wrong. Then it probably is for you. Some IRA plans do have lower costs. But not all of them are lower. There is no universal level of fees.
But there is a large contingency of IRA holders paying high fees, higher than the fees charged by their company’s retirement plan. To find out how the fees you pay compare, take the time to do your own research. Or hire a good fiduciary advisor to help you research the difference. Your reward could be a higher future balance or fewer years of work.
Additionally, employer-sponsored plans can provide a unique range of investment options compared to IRAs. These options include specialized funds, employer stock, and other unique investment opportunities. For example, some employer plans have kept costs low by offering a specialized type of account called a CIT or Collective Investment Trust. It is not possible to offer CITs in IRAs. By keeping your funds in your employer’s plan, you can continue to access these diverse investment options and potentially benefit from them.
Creditor Protections and Loan Options
Retirement plans, including 401(k)s, offer certain federal protections against creditors and lawsuits. If you file for bankruptcy, your 401(k) balance is safe from seizure by creditors. However, IRA account holders do not enjoy the same level of protection and are subject to varying state laws.
Furthermore, all qualified employer retirement plans often allow participants to take loans from their accounts, providing a potential source of emergency funds. IRAs, on the other hand, do not offer this option. FYI, SEP and SIMPLE plans are considered IRAs and do not have loan options. With a qualified plan, you can access loans if needed by remaining in your employer’s plan. Plus, some company retirement plans will accept transfers from prior employers. You can also use that money for loans too.
It is important to repeat the Key Planning Point stated above. It is best to maintain separate accounts for your personal IRA and a 401(k) rollover. In the event that you intend to revert a 401(k) rollover, which has been converted into an IRA, back to a 401(k), it is important to ensure that the funds are not mixed with your personal IRA.
Deciding whether to take a 401(k) rollover or keep it in your employer’s plan requires careful consideration of various factors. While rollovers to IRAs have been popular, recent research and industry experts suggest that sticking with your employer’s plan can have advantages. Access to stable value funds, fiduciary responsibility, superior performance, lower fees, wider investment options, creditor protections, and loan options are some of the key benefits of keeping your funds in your employer’s plan. However, it’s essential to evaluate your situation and consult a financial advisor to determine the best course of action for your retirement savings.
If you’re seeking personalized guidance on your 401(k) rollover, schedule a call with Van Richards, ChFC. Simply click below to set up a brief call.