After leaving a company, former employees can usually opt to keep their 401K or move the money over into a Rollover IRA. The benefits of rolling over old employer 401ks often outweigh the negatives.
1. Investing Efficiency
Most company sponsored 401k plans offer only a small selection of mutual funds, target-date funds and company stock. With a Rollover IRA, a person can choose to invest in a wide variety of stocks and bonds within institutional funds. Diversification is the key to investment success. Investing in a wide base and including small, value, and international stocks can help to boost your annual return. A small amount of increase in annual return due to investing in a more efficient portfolio can add thousands of dollars to your bottom line in retirement.
2. Avoiding tax complications
By rolling over an old 401K rather than taking the money out, a former employee does not have to worry about paying taxes or penalties to the IRS associated with early distributions from a retirement account. According to a recent study by Fidelity cited by a Forbes article, one in three people cash out their 401K plan when they leave a company or change jobs. People who cash out their 401k not only owe ordinary income taxes on the full amount, but also owe an additional 10 percent penalty unless they qualify for a rare exemption. Cashing out a 401k should only be done in an emergency when there are no other options.
3. The Roth Conversion
Once someone has rolled over 401k to an IRA, they then have the option of converting that money into a Roth IRA. A Roth IRA has great tax advantages in that your money, including principle and growth is not taxed when taken out after age 59 1/2. When you do a Roth Conversion, you pay the taxes in that year, and are never taxed on it again. If you are in a low tax bracket after ending or changing employment, then a Roth Conversion is a must.
4. Ease of Access
There can be a lot of people to go through if you want to make changes or withdraw from your 401k. I personally have had some experiences where 6 months has passed without anything happening after someone requested a change in an old 401k. With an IRA, you can email, call, or text your advisor, and he will help you to accomplish whatever you need done with your account.
Ultimately, the benefit of an IRA rollover is flexibility. Not only does a person have more investment options, but he or she can eventually choose to convert money from a Rollover IRA into a Roth IRA. Many people view the Roth IRA as the ultimate retirement investment account because the money can be withdrawn tax free in retirement.
By Jimmy Hancock