Before Rolling IRAs from 401ks Understand the Advantages of Each
As you develop retirement strategies, you may consider rolling over your employer's 401k plan straight into rollover IRAs. Before you decide, take into account the advantages of each. Refer to the table as a summary.
The advantage of an IRA
- When you're considering early retirement, it is possible to withdraw funds from your IRA before 59½ without the 10% penalty with the "substantially equal periodic payments principle ." Here you must pull out a specific amount each year utilizing an IRS-approved calculation method. These withdrawals must continue for longer of five years or until the owner reaches 59½. However 401(k) plan participants face the 10% penalty if they withdraw money before they are 59½.
- With recent changes in legislation, spouse and non-spouse beneficiaries of your 401(k) have equivalent alternatives, because the 401(k) beneficiary may transfer money to rollover IRAs. However, until recently this was not the case and there was a significant different in 401ks and rollover IRAs as to beneficiary treatment.
- Rollover IRAs will allow penalty-free withdrawals for the following: higher-education expenses and first-time home- buyers. 401(k) plans along with other employer retirement plans will not necessarily offer that.
- Rollover IRA owners may have multiple rollovers IRAs with various investment objectives and can remove funds from any of the accounts. Each can have its own named beneficiary. Though 401(k) plans may well offer a broad range of purchase options, the choices generally are usually limited to one account and you may name only one line of beneficiaries.
- Asset management fees employed by rollover IRAs must divulge all fees when the accounts are opened or once the fee schedule is altered. An IRA owner can pay the asset management charge out of the IRA account or with money from a non-retirement account. The latter can be used as an itemized tax deduction on your yearly tax form - Schedule A. As to 401k fees, these would not be deductible as employers pay 401(k) plan administrative fees. If person is invested in various assets within his 401k account, those charges will be collected at the fund level and are mostly buried.
The Advantage of 401(k)s
- Should you hold company stock that has greatly increased in value, you can remove the shares and just pay the taxes on the price you originally paid for them, not the appreciated value. You can maintain that stock, and if you sell it, you'll only pay the low (15%) capital gains tax on the increased value. These beneficiary rules for 401k plan participants are the net unrealized appreciation rules. If you transferred that stock to an IRA you would lose the tax break and would be subject to regular taxes.
- Plan participants are allowed to withdraw money straight from the plan without penalty if they separate from service (e.g. retire) from company after reaching fifty-five. This rule doesn't apply to rollover IRAs.
Rollover IRAs have great benefits. Check with your custodian today and take advantage of rollover IRAs today.
|Comparative Potential Advantages of IRAs vs 401(k)s|
|Issue||IRA Advantages||401(k) Advantages|
|Early-retirement options||Can take out before 59 1/2 without penalty under 'substantially equal periodic payments rule'||You can withdraw money from plan for early retirement with no penalty if leave company after 55 years old|
|Options for beneficiaries||Similar options now||Similar options now|
|Penalty-free withdrawals options||For higher education expenses, and first-time home buying||Maybe unavailable|
|Investment choice options||Can establish multiple IRAs for different investments and different named beneficiaries for each account||Single account - not as much investment choices as IRA|
|Flexibility in Paying fees||IRA custodian must disclose all fees when account is opened. You can pay fees out of IRA, or separately for itemized tax-deduction.||Employers pay administration fees. If invested in some funds, these fees are largely buried to employee.|
|Reducing Capital gains||Everything withdrawn is subject to your income tax rate||You can pull out company stock separately and pay tax only for unappreciated price you paid for it. You can hold it or when sell you'll be taxed at 15% capital gains rate on the Net Unrealized Appreciation|
Lose a Fortune on Your 401k Rollover
If you do not do any of these correctly:
- Opt for a distribution rather than direct transfer
- Rollover company stock to an IRA
- Choose to rollover to a Roth IRA
- Rollover to your new employer’s 401k
- Rollover post-tax contributions