One of our 401(k) participants recently asked me if I would roll her 401(k) account into an IRA for her. She said she was leaving the employer and wanted to know what her options were. After some thought I realized this question comes up probably a thousand times or more each day as people prepare to leave one job for another.
An Individual Retirement Account is something every retirement saver will ultimately possess. It is just a matter of when you get yours. In my opinion, the sooner you open an IRA the better. In the case of my client she came to a fork in the road and found herself in need. We opened the IRA because she needed it, and she also decided to roll her 401(k) into it.
Why did she need the IRA, and why did it make sense to roll her 401(k) into the IRA vs. transferring it to her next employer’s 401(k)? There are two reasons. The first reason for needing the IRA is continuity. In 401 CONFIDENTIAL I explain the importance of what I call the “ABC’s”. Always Be Contributing to a 401(k), Individual Retirement Account, or both. While she is in her one-year waiting period to join her new 401(k) plan (assuming the employer even offers a plan), she needs to continue to save money for retirement. If she’s waiting to become eligible to join her new employer’s 401(k) she has no place to resume investing. Thus she needed to open the IRA, regardless of whether she chose to roll her previous 401(k) into it.
The second reason she needed the IRA is she needed the freedom to choose where to invest her life savings. When you open an IRA there is a limit on how much you can contribute, but not on the amount you can transfer in from your last employer’s 401(k) plan. Sometimes we tend to elevate 401(k)s above IRAs in our minds because they have higher contribution limits. Do not think of 401(k)s and IRAs as being on different planes. Think of them as being on the same plane, and decide which plane is more appealing. Do you want one choice of where you can invest your life savings, or do you want unlimited freedom to choose your destiny?
If you go with one choice, you are saying you trust that your next employer’s 401(k) plan has only excellent investment choices and only low fees. If that were a guarantee then I wouldn’t have written 401 CONFIDENTIAL. If you go with an IRA, you are going with unlimited freedom to choose your investments and your fees. I highly recommend everyone follow the ABC’s. And when you come to that fork in the road and need to decide where to put your life savings from your previous employer’s 401(k) plan, I hope you’ll choose freedom.