Moving your money from one retirement plan to another has become easier thanks to new tax laws that took effect in January 2002. A rundown of the old rules will help you understand the new ones.
The old rules
Typically, if you work in private industry and have accumulated money in a 401(k), you can move the assets into an IRA without tax consequences when you leave the job.
Also, if you left your job, rolled the money into an IRA and subsequently took another job, you might not have been able to roll the IRA assets into the new plan, depending on the type of plan offered by your new employer.
Plans offered by education systems and state and local governments -- 403(b) or 457 plans -- were generally more restrictive than 401(k) plans when it came to where you ccould roll your assets without taking a tax hit. Some plans prohibited any direct custodian-to-custodian rollovers, even to an IRA. For example, government employees who contributed to 457 plans couldn't move their savings into another qualified retirement plan or roll them into an IRA.
The rules for Roth IRAs are also pretty strict: You can't roll assets from an employer-sponsored plan to a Roth. You can, however, roll the lump sum distribution into a traditional IRA, convert all or part of the IRA to a Roth and pay income taxes on the conversion. These rules won't change.
The new rules
The new tax laws say that no matter where you work, when you leave a job you can move pretax money you contributed to a retirement plan to any other tax-favored plan.
For example, if you are a teacher with a 403(b) and quit your job to join a private company, you will be able to shift your savings to your new employer's 401(k) if the employer's plan permits it. Or if you have been contributing to a 457 plan, you will be able to roll those assets into an IRA or 401(k) plan.
In addition, if you contributed to an IRA and received a tax deduction for the contribution on your federal tax return, the new law allows you to roll those contributions into a company plan, such as a 401(k).
A husband or wife who inherits money from a spouse's retirement plan at work now have broader choices. The account may be rolled into the survivor's own plan at work or, as in the past, into an IRA.
If you are in your 50s or older or have substantial savings in a company plan, your best choice when you retire is probably to roll the distribution directly into an IRA and leave it there.
Employers must act
Whether you can take advantage of the new rules will depend on your employer. The new rollover rules are optional for employers, and they must amend their plans accordingly. It remains to be seen how willing many employers will be to assume the extra paperwork.
An IRA is still the best option
For several reasons, a traditional IRA remains the preferred place for retirement savings rolled over from employer plans.
You retain control. In an IRA, you have control over account expenses and have a world of investment options available to you. If you're not happy with performance or your choices, you can roll over the account to another firm or pick another stock or mutual fund. Company plans typically offer participants far fewer investment options.
You manage the costs. With an IRA, you can select no-load mutual funds or negotiate better deals with your brokers, who may agree to waive the annual IRA-maintenance fee if you have other assets at the firm. At Fidelity, for instance, if you have more than $30,000 in household brokerage accounts, the company waives the $50 charge.
An IRA is easier to handle in an estate plan. For example, unless you live in one of nine community-property states, you can name a person other than your spouse as the beneficiary of your IRA without your spouse's written consent. Also, you can split your IRA into separate accounts for each beneficiary. Employer plans generally require spousal consent, and they can't be split up.
Fewer hoops if you take your money early. There's another reason to consider moving your savings out of an employer's plan and into an IRA. You can tap your IRA before age 59½ without incurring the 10% penalty for early withdrawal by arranging to take a series of substantially equal payments over your life expectancy, or over the joint life expectancy of you and your beneficiary. You must continue the distributions for at least five years and until you reach 59½.
Contributions you make to your 401(k) are basically locked up until you reach age 59½, unless you leave the company, become disabled or die at an earlier age. You may be able to get money before then if your firm allows hardship withdrawals, say for medical bills, but even then the withdrawal can happen only if you don't have other savings you could use and you can't borrow the money.
Hardship withdrawals are subject to a special 20% withholding rule for income taxes, and withdrawals made before age 59½ are usually subject to a 10% early-distribution penalty. The penalty may be waived if the distribution is made as part of a series of roughly equal payments based on life expectancy.
When keeping an employer plan makes sense
Beginning next year, there will be a few situations in which leaving your money in an employer plan may be more appealing than putting it in an IRA.
You want to delay required distributions. If you're older than 70½ and employed, you can avoid taking minimum required distributions (and keep the assets growing on a tax-deferred basis) as long as you keep your savings in your employer's retirement plan.
By contrast, with an IRA account, you must begin taking mandatory distributions by April 1 of the year after you reach 70½, working or not.
Creditors might come knocking. Depending on where you live, assets you roll into an IRA may not be fully protected from creditors. Vermont limits to $10,000 the amount an IRA owner can protect from creditors, and California protects only the amounts necessary to support the debtor and his or her dependents. The protective barricade surrounding assets in qualified retirement plans is much harder to breach. If you are concerned about how an IRA rollover would be treated in your state, consult with your lawyer.
Your employer's plan has special features. The plan may allow you to trade stocks cheaply, or it may provide you with company-paid professional investment advice. The latter, especially, may be reason enough to stick with the company plan.
GETTING STARTED
