When employees leave employment, the common response is to want to sever ties and move on, especially if the employee left involuntarily or on bad terms. However, withdrawing or rolling over your 401k may not be the best decision in every case. There are important financial and legal considerations. Before making decisions about your 401k benefits you should consider talking to a financial adviser and lawyer near you to discuss financial and legal concerns.
Financial Considerations for employees and retirees
Many financial considerations can come into play in this decision. If you leave one employer to go to a next, you may have the opportunity to weigh the investments and fee structures of the different plans. For all employees, you likely have the opportunity to roll over your 401k assets to another tax-deferred account.
If you speak with a financial advisor, they will most likely recommend you roll over to an account with them; however most advisors work on commission. They may not give you a completely honest assessment of what your plan offers. 401k plans usually – but not always – offer low-fee investment options that charge lower fees than what an advisor can offer. Although the difference may be slight a full extra point in fees on mutual funds over your life can erode as much as 28% of total savings. That’s a big bite.
Of course, your plan may offer underperforming funds or have common market-rate fees that makes rolling your account over advantageous. Your plan may also charge annual or quarterly fees that negate the benefit of low-fee funds. Additionally, you may be an active investor with a preference for non-fund investments. Every investor and every plan is different so you should consider your personal financial needs and consider speaking with a financial advisor, preferably a fee-based advisor who can help you develop a financial plan without taking a percentage of your retirement savings to do it. Also consider the legal aspects of the 401k plan and moving benefits to another account.
Legal considerations
One thing a financial advisor often overlooks in discussing rolling over your 401k is the legal protections a 401k provides. Unlike an IRA or an annuity, a 401k account carries protections against your creditor in bankruptcy. Obviously nobody expects to have to go through bankruptcy but things happen and sometimes it is the right decision.
If you roll your savings to an IRA or annuity, your creditors in bankruptcy can reach your savings and the bankruptcy court may require you to distribute that money to creditors, leaving you without retirement savings. The bankruptcy court cannot order 401k savings released to creditors. That protection should not be overlooked. The exception is that the IRS can place a lien on your 401k and family courts can order a division of 401k assets through a qualified domestic relations order (QDRO) to satisfy a division of marital assets in a divorce or to pay child support.
Another key legal consideration is estate administration. Upon your death, your 401k account will automatically distribute to your elected beneficiaries without having to go through probate. An IRA or other retirement savings account can be contested assets.