Benefits of 401k vs IRA accounts in Retirements

Should you move your 401k to an IRA?

This question comes up frequently in retirement. Consolidating to a single IRA account does simplify the management of your investments. The following are some benefits to leaving some investments in a 401k.


No 10% penalty on distributions on early withdrawals

If you retire from a company, or lose their job at age 55 or older, can withdraw money from that account without having to pay a 10% penalty. That is not the case once you roll your 401(k) into an IRA. The IRA rules require you to wait until age 59 1/2 to gain access to those funds without penalty.


Lower fees

Regulations by the Department of Labor require 401(k) plan sponsors to provide simplified disclosures showing administrative expenses and fees to employees. This helps employees make an apples to apples comparison of the fees with other investments. An added benefit of the simplified disclosure is that it has helped to drive down fees as employers sought to negotiate lower fees in their plan. Many large plans by nature of its size and clout are able to negotiate more favorable fee structures. Smaller plans, may also be able to provide reduced investment expenses because of institutional pricing on investments or “break points” in commissions that they can achieve.


Low or no cost Financial Guidance and Advice

Many employers offer free or low cost guidance through workplace sponsored programs. Alternative options such as online advice programs such as Financial Engines are becoming popular to help employees make decisions about investing their 401(k) assets.


Protection from lawsuits

Retirement plan such as 401(k)s, are protected under federal law but IRAs are protected under state law which can vary state to state. 401(k)s are generally much safer from creditors than your IRA. IRAs are protected against bankruptcy up to a limit, but not personal lawsuits.


Ability to borrow against the funds

One cannot borrow from an IRA, but many 401(k) plans have loan provisions that allow you to borrow against your funds while you are actively employed with your company, some plans may offer the same benefit in retirement


Access to Stable Value Funds

IRAs offer greater control and a wider possiblity over where you can invest. Stable value funds, however, are generally only avalable in 401k accounts. Stable value funds are capital preservation investment options available in 401(k) plans. They are invested in a high quality, diversified fixed income portfolio that are protected against interest rate volatility by contracts from banks and insurance companies.


What are Required Minimum Distributions?

Required Minimum Distributions (RMDs) is the minimum amount that must be withdrawn from a retirement planb when the owner reaches 70 1/2 years of age or, if later, the year in which he or she retires. However, if the retirement plan account is an IRA or the account owner is a 5% owner of the business sponsoring the retirement plan, the RMDs must begin once the account holder is age 70 1/2, regardless of whether he or she is retired.

What types of retirement plans require minimum distributions?

RMD rules apply to all employer sponsored retirement plans, including profit-sharing plans, 401(k) plans, 403(b) plans, and 457(b) plans. The RMD rules also apply to traditional IRAs and IRA-based plans such as SEPs, SARSEPs, and SIMPLE IRAs. The RMD rules also apply to Roth 401(k) accounts. However, the RMD rules do not apply to Roth IRAs while the owner is alive.

When must RMDs be taken?

You must take your first required minimum distribution for the year in which you turn age 70 1/2, but the the first payment can be delayed until April 1 of the year following the year in which you turn 70½. For all subsequent years, you must take the RMD by December 31 of the year. This is also true for the year in which you were paid the first RMD if you took the first payment by April 1.

Can the RMD be taken from one account instead of separately from each account, if the owner has multiple Retirement accounts?

The RMD must be calculated separately for each retirement account, but the total amount from one or more of the IRAs.

What happens if a person does not take a RMD by the required deadline?

Failure to withdraw the full amount of the RMD by the deadline, results in a tax of 50%. The account owner should file Form 5329: "Additional Taxes on Qualified Plans (Including IRAs) and Other Tax-Favored Accounts", with his or her federal tax return for the year in which the full amount of the RMD was not taken.

Can the penalty for not taking the full RMD be waived?

The penalty may be waived if the account owner establishes that the shortfall in distributions was due to reasonable error and that reasonable steps are being taken to remedy the shortfall. In order to qualify for this relief, Form 5329 must be filed with an attach a letter of explanation.

How are RMDs taxed?

The distribution is taxed at the account owner's income tax rate.