8 Reasons to Roll Over Your 401(k) to an IRA

Whenever you change jobs, assuming you have a 401(k) in your current position, you have the option of moving your account into your new employer’s 401(k) or into an individual retirement account (IRA). Retirement is another time when you can make the switchover from your 401(k) to an IRA. Or, in some cases, you can leave it where it is.

Which option should you choose? For most people, rolling over a 401(k) into an IRA is the best choice. Here are eight reasons why.

1. There Are More Investment Options

Your 401(k) is limited to a small sampling of the investment options that are available; in all likelihood, you had the choice of a few mutual funds. However, with an IRA, most types of investment are available to you, including not just mutual funds, but also individual stocks and exchange-traded funds (ETFs), to name just two. Having more options can help you develop a better long-term strategy for your retirement savings.

“IRAs open a larger universe of investment choices,” says Russ Blahetka, CFP®, founder and managing director of Vestnomics Wealth Management, LLC, in Campbell, Calif. “Most 401(k) plans do not allow the use of risk management, such as options, but IRAs do. It is even possible to hold income-producing real estate in your IRA.”

2. You Get the Roth

Sure, there are Roth 401(k)s, but they aren’t an option in every company’s 401(k). With an IRA, anyone whose income make them eligible for a Roth can open one. Remember, a Roth IRA [and Roth 401(k)] require you to pay taxes now instead of later. (A traditional IRA taxes you when you take money out.) If you believe you will be in a higher tax bracket or tax rates will be generally higher when you begin taking distributions, a Roth might be in your best interest. (To learn more, read What's the Difference Between a 401(k) and a Roth IRA? and How Is Your 401(k) Taxed When You Retire?) The other benefit is that there are no required minimum distributions at age 70½ with a Roth.

3. You Can Contribute to Both

You don’t have to roll all of your money into an IRA. Some of your balance can remain in your former company's 401(k) if you’re happy with the returns you’re receiving and your former employer allows you to leave your money there. (Or you can move it to your new employer's 401(k), if that's permitted.) After you've done your rollover, you can contribute to both your new company's 401(k) and an IRA (Roth versions, too) as long as you don’t go over your annual contribution limit (see Can I Contribute to Both a 401(k) and an IRA? and Comparing Contribution Limits: Roth 401(k) vs. Roth IRA).

4. You Can “Borrow” from Your Roth IRA

If you roll over your 401(k) into a traditional IRA, it’s true that you lose the ability to borrow funds if that was an option in your old account. But if you roll it into a Roth IRA, you still have options. (See 401(k) Loan vs. IRA Withdrawal to learn more.)

5. You Might Get Some Free Cash

Brokers are eager for your business. To entice you to bring your retirement money to their company, they may throw some cash your way. Depending on your balance, that may be thousands of dollars. If it’s not cash, free trades could be part of the package. For more on this topic, read The Smartest Ways to Roll Over Your 401(k).

6. There Are Far Fewer Rules

Understanding your 401(k) is no easy task because each company has a lot of leeway in how they set up the plan. IRAs are standardized by the IRS. An IRA with one broker follows most of the same rules as with any other broker.

7. You Have Estate Planning Advantages

Upon your death, there’s a good chance that your 401(k) will be paid in one lump sum to your beneficiary. IRAs have more payout options. (See 5 Benefits of Rolling Over a 401(k).)

8. The Rollover Is Free

You don’t have to pay a fee to roll your 401(k) into an IRA. But that doesn’t mean there aren’t costs to consider.

“Investors should be careful about transaction costs associated with buying certain investments and the expense ratios, 12b-1 fees or loads associated with mutual funds. All of these can easily be in excess of 1% of total assets per year,” says Mark Hebner, founder and president of Index Fund Advisors, Inc., in Irvine, Calif., and author of “Index Funds: The 12-Step Recovery Program for Active Investors.” (To find out more, read Rolling Over a 401(k)? Consider the Fees.)

The Bottom Line

For most people switching jobs, there are advantages to rolling over a 401(k) into an IRA – including uncommon ones: “I have a client whose former employer went into bankruptcy. His 401(k) was frozen for three years since the court needed to make sure there was no monkey business there. During [that time] my client had no access, and he was constantly worried about losing his retirement fund,” says Michael Zhuang, principal of MZ Capital Management in Bethesda, Md.

If you want to learn more about how to complete a rollover, check out our Guide to 401(k) and IRA Rollovers. Or, if you plan to keep your 401(k), read 10 Little Known Ways to Reduce Your 401(k) Taxes to make sure you’re minimizing your tax bill.