The most widely held investment in the United States is the employee-sponsored plan, typically in the form of the 401(k). Employees save into it diligently for decades, yet as they approach retirement, most people are not aware of the many options available to them both before and after retirement, nor the dangers that exist in just staying the course. As financial advisors, it is our job to educate and inform our clients of the variety of options they have when it comes to their 401(k), the advantages and disadvantages of timing and what makes the best sense for their financial futures.
Many of the people I meet with erroneously believe that they have to be retired to roll over their 401(k). The reality is that most people do NOT need to be retired before they decide to roll over their 401(k)! In fact, it is ideal and can be very advantageous if they roll it over before their retirement. The best retirement plans are designed while our clients are still working. This is a mindset that not all of our clients may have, or be aware of, and we need to educate them on this important insight. How can we do so?
Saving for retirement is fairly straightforward during working years. Clients will save as much money as they possibly can by investing into a portfolio that they hope increases in value over time. That's pretty much it. Transitioning into retirement is a conversation about income. As advisors, it is our responsibility to ask the tough questions to understand our clients’ financial and mental comfort level. How much income do they need to live on? Where do they take it from? How do they take it out? What's the tax impact of doing that? How long is it going to last? And what's going to happen to the money when they’re gone? The best strategies are designed, certainly, to last as long as the client needs them to by using a laddered strategy where the client gets the benefit of current liquidity and necessary future growth.
As we have these important conversations with our clients, we need to let them know the reason that it's advantageous to design this plan before retirement is that some of the investments that might appeal to them to use might not be able to be touched for a year, or there isn’t the option to draw money out of them for three years. If the client is still working, they will most likely not need to draw on these funds in the near future. If they wait until they retire to figure out their retirement plan, it can be very difficult. Trying to design a prudent retirement while going through the transition of no longer working and no longer getting a paycheck can be a very overwhelming proposition.
So, why advise a client to roll over their 401(k), especially if they don’t see the immediate benefits to their financial bottom line? By choosing to roll over their 401(k) before their retirement, the client opens themselves up to a variety of options that they wouldn’t normally have if they continue to be locked into their employer-sponsored plan, and this can decrease their risk. When meeting with clients, we should remind them to take into account the following:
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A big benefit of rolling over their 401(k) into an IRA is that they typically get more investment options. If a client contributes to their employer’s retirement plan, they might end up with only a few options provided by the plan administrator. The client might have to be heavily invested in company stock or might have a limited number of high-cost mutual funds to choose from. They also might end up with having one stable value option, which is a fixed rate, which becomes more and more appealing, and more and more appropriate as they approach retirement, but at a potentially less than desirable rate.