Should I Roll Over My Old 401(k)? A Guide to Making the Right Choice

Oct 16, 2024 · from the Kaight v1 archive

Wooden blocks spelling 'NEW' and 'OLD' next to 'JOB' with a succulent plant in the background and text overlay reading 'Should I Roll Over My Old 401(k)?' representing the decision between keeping old and new retirement accounts

Question:

I recently left my job of 8 years where I accumulated $185,000 in my 401(k). I’m 42 years old and just started a new position at a tech company, but I won’t be eligible to participate in their 401(k) plan for another 6 months. I’m trying to decide whether to roll over my old 401(k) into an IRA now or wait to merge it with my new employer’s plan once I’m eligible. What factors should I consider in making this decision?

Answer:

This is a common dilemma that requires careful consideration of several key factors. Many professionals face this decision when changing jobs, and the right choice can significantly impact your retirement savings strategy. Let’s break down the pros and cons of each option to help you make an informed decision.

Option 1: Rolling Over to an IRA

Advantages:

✓ Investment Flexibility: IRAs typically offer a wider range of investment options compared to employer-sponsored 401(k) plans. While most 401(k)s limit you to a few dozen mutual funds, an IRA gives you access to thousands of stocks, bonds, ETFs, and mutual funds. This flexibility allows you to build a more personalized investment strategy.
✓ Immediate Control: Instead of waiting 6 months, you can take control of your investments now. This means you can immediately adjust your investment strategy to align with your current goals and market conditions.
✓ Cost Efficiency: Many IRAs offer low-cost investment options and have minimal administrative fees. You can choose from a wide range of providers and select one with the most competitive fee structure.
✓ Consolidation Options: An IRA can serve as a central location for consolidating multiple retirement accounts, making it easier to manage your investments and maintain a coherent investment strategy across all your retirement savings.

Potential Drawbacks:

× Loss of Loan Options: Unlike 401(k)s, IRAs don’t allow you to borrow from your account. This could be significant if you anticipate needing access to these funds in the future.
× Higher RMD Age: Some 401(k) plans allow you to delay Required Minimum Distributions if you’re still working at age 72 or older. IRAs require RMDs regardless of employment status, which could affect your tax planning in retirement.
× Less Creditor Protection: While IRAs do have some protection under state laws, they typically don’t offer the same level of comprehensive creditor protection that ERISA provides to 401(k) accounts.

Option 2: Waiting to Merge with New Employer’s 401(k)

Advantages:

✓ Simplicity: Managing a single 401(k) account can streamline your retirement planning and reduce paperwork. You’ll have one statement, one set of investment choices, and one point of contact for support.
✓ Loan Options: 401(k) plans typically allow you to borrow up to 50% of your balance or $50,000, whichever is less. This can provide a valuable financial safety net, though it should be used cautiously.
✓ Stronger Creditor Protection: 401(k)s offer robust federal protection from creditors under ERISA law, which can be particularly important for high-net-worth individuals or those in professions with liability concerns.
✓ Potentially Lower Costs: Large employers often negotiate institutional-rate fees for their 401(k) plans, which can be lower than retail IRA fees. Some plans also offer access to lower-cost share classes of mutual funds.

Potential Drawbacks:

× Limited Investment Options: Most 401(k) plans offer a restricted menu of investment options, typically 20-30 mutual funds. This can limit your ability to implement specific investment strategies or access certain asset classes.
× Delayed Control: The 6-month waiting period means your investments will remain in your old 401(k)’s investment options, which may not align with your current investment goals.
× Plan Quality Unknown: Until you’re eligible to participate, you won’t have full access to information about the new plan’s fees, investment options, and features.

Recommendation

Consider this hybrid approach:

Review your old 401(k)’s investment options and fees in detail, particularly focusing on expense ratios and administrative costs.
Request comprehensive information about your new employer’s 401(k) plan options and fees. Many employers will provide this information to new hires even before eligibility.
If your old 401(k) has good investment options and reasonable fees, consider leaving it there for the next 6 months while you evaluate your new employer’s plan. This gives you time to make a more informed decision without rushing.
If your old 401(k) has high fees or poor investment options, rolling over to an IRA now might be the better choice. Look for a low-cost provider with a wide range of investment options.

Remember that you’re not locked into your decision forever. If you roll over to an IRA now, you could still potentially roll that IRA into your new employer’s 401(k) later if you determine that’s the better option.

Additional Considerations

Roth Conversions: If you’re considering future Roth conversions, having funds in an IRA might complicate the tax implications due to the pro-rata rule. 401(k) funds are not subject to this rule, which could make future Roth conversion strategies more tax-efficient.
Early Retirement: If you plan to retire before age 59½, keeping funds in a 401(k) might give you easier penalty-free access to your money through the Rule of 55. This rule allows you to withdraw from your current employer’s 401(k) without penalty if you leave your job at age 55 or later.
Investment Knowledge: Consider your comfort level with selecting and managing investments. An IRA requires more hands-on management and investment knowledge, while 401(k)s often provide professionally managed options like target-date funds.

The best choice depends on your specific circumstances, including your investment experience, retirement timeline, and overall financial goals. Consider consulting with a financial advisor or our who can review your complete financial picture before making your final decision, particularly given the substantial balance in your account and the important implications for your retirement planning strategy.

Need help making your 401(k) rollover decision?

Let Kaight analyze your current retirement accounts, investment options, and help you make the best choice for your financial future.

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