Should I Roll Over My 401(k) to a Traditional IRA?

Starting a new job presents an opportunity for you to make changes to your retirement savings plan. Evaluating all of your options to determine the best fit for you requires significant research to educate yourself on all the variables at play. If you change jobs, one option is for you to roll over your 401(k) to a traditional individual retirement account (IRA). Read below to learn the advantages and disadvantages of 401(k)s and traditional IRAs and what the two plans have in common before you make any decisions.

Advantages of 401(k) Plans

  • Pre-tax Contributions – Contributions to your 401(k) reduce your taxable income by deducting deposits from your paycheck before taxes are applied.
  • Contribution Limit – You are allowed to contribute $19,000 per year to your 401(k). If you are age 50 or older, you are allowed an additional $6,000 per year in catch-up contributions.
  • Company Contribution Matching – Some companies offer to match your contributions to your 401(k). The percentage matched varies from company to company. Company contributions do not count towards your $19,000 per year limit.
  • Borrow Against 401(k) – Some companies and 401(k) plan providers will allow you to take out a loan against your 401(k). The IRS rules regarding loans against retirement savings stipulate a maximum loan amount of $50,000 or 50% of your vested balance, whichever is less.
  • Protection from Creditors – Generally, funds in your 401(k) receive more protection from creditors and bankruptcy than other retirement savings plans, but levels of protection vary from state to state.
  • May Avoid Required Minimum Distribution (RMD) at 70½ – If your employer allows it, and you do not own more than 5% of the company, you can delay your RMD on your 401(k) held at your current employer until after you retire. This does not apply to 401(k) accounts held with previous employers.

Disadvantages of 401(k) Plans

  • 401(k) Plan Fees – 401(k) plan administrators may charge investment fees, administrative fees, and service fees.
  • Limited Investment Options – Your company and your 401(k) plan provider determine what investment options are available for you to choose.
  • Vesting Schedule – If your company offers contribution matching, you will likely be subject to a vesting schedule. If you leave the company before you are fully vested, you may forfeit some of the money your employer contributed.
  • Waiting Period for New Employees – When starting a new job, your company may require a waiting period before you can participate in their 401(k) plan. Depending on the length of the waiting period, you could spend up to a year without the ability to contribute to your 401(k).

Advantages of Traditional IRAs

  • Investment Options – IRA plans offer a wide range of investment options which allows you to maintain a more diverse investment portfolio.
  • Self-Directed Investing – You create your own investment portfolio and all investment decisions are completely under your control.
  • Fees and Expenses – Depending on your traditional IRA account provider, annual fees and expenses for transactions and services may be less than that of your company’s 401(k) plan provider.
  • Pre-Tax Contributions – Traditional IRAs are tax-advantaged accounts that qualify for pre-tax contributions.
  • Tax Deductible Contributions – If you and your spouse are not covered by a retirement plan at work, you can deduct the full amount of the contributions to your traditional IRA. However, if either you or your spouse are covered by a retirement plan at work, the amount you can deduct may be limited.
  • Early Withdrawal Exceptions – Early withdrawals from a traditional IRA for higher education and for first-time home buyers (up to $10,000) are not subject to the 10% tax penalty imposed by the IRS.

Disadvantages of Traditional IRAs

  • Limited Protection from Creditors – Although levels of protection from creditors vary from state to state, traditional IRAs generally do not receive the same level of creditor protection as 401(k)s.
  • Limited Annual Contribution – Annual contributions are limited to $6,000 per year. If you are age 50 or older the contribution limit is $7,000.
  • RMD Required at 70½ – Unlike 401(k)s, the IRS does not allow for RMD exceptions for traditional IRAs.

What do 401(k) Plans and Traditional IRAs have in common?

For both 401(k)s and traditional IRAs, the RMD starts at the age of 70½. As noted above, the IRS may make an exception for those still employed. Also for both plans, early withdrawals before the age of 59½ are taxed as regular income and subject to a 10% tax penalty. However, the IRS does make some exceptions for early withdrawals depending on how the funds will be used.

Is a Traditional IRA Right for Me?

Choosing between a 401(k) plan and rolling the funds over to a traditional IRA depends on your current financial situation and long-term financial goals. For example, your new company’s 401(k) may be great for you if your company has a favorable contribution matching policy and you plan to stay in the job until you’re fully vested. A traditional IRA may be the best fit if you plan to buy your first home and hope to put some of your retirement savings towards your down payment. Other variables such as age, level of income and your marginal tax rate also come in to play. Whatever your situation, use your job change as an opportunity to evaluate your retirement savings plan and make changes that will maximize the benefits to you.

Working with qualified financial advisors familiar with the range of retirement savings options ensures you maximize your income now to produce the best results over time. Our team at Wickham Financial & Insurance Services works with clients of all ages and all income levels. We pride ourselves on working closely with clients to educate them on how their current situation affects their long-term investment strategies. Meet with a member of our team to learn more about all of your retirement savings options and how to decide which is the best choice for you.

Any information provided has been prepared from sources believed to be reliable but is not guaranteed, does not represent all available data necessary for making investment decisions and is for informational purposes only.