Advisors have “amazing opportunities at this midyear,” Ed Slott, the Rockville Centre, N.Y.-based IRA and retirement-planning expert, said in a Financial Advisor magazine sponsored webinar.
“More people will be turning 65 this year than ever before in history,” he said, calling it “the 65 Summit, or the Silver Tsunami.” Some 12,000 people are turning 65 every day, he said, or more than four trillion by year-end.
Whether they are retiring or only beginning to think about it, he said, they have amassed large 401(k)s or IRAs—which is money they haven’t paid taxes on yet. They are worried about lowering their tax bill on that retirement savings. “That is an unbelievable opportunity for an educated advisor,” said Slott. “It’s not enough just to make clients money, which seemed to be easy the last few months.”
Tax planning is the key to helping these clients now, he said.
Slott also said advisors will be impacted by layoffs in the tech industry, which he called “the most valuable companies in the world.” More than 200,000 tech employees were laid off last year, he said, and they have “massive 401(k) accounts.”
He encouraged advisors to find these laid off workers and turn them into clients.
Many of them would benefit from rolling over their 401(k) to IRAs, he said. IRAs provide greater flexibility than 401(k)s, and there are more investment options available, including alternative investments. This gives investors greater control over their savings, he said, and represents an opportunity to receive customized advice from a wealth manager.
In addition, clients who are 70½ or older—and who are “charitably inclined”—can make qualified charitable distributions from IRAs, which isn’t true of 401(k)s, he said.
“Rollovers are where you’re going to bring in new clients,” Slott said. It’s projected there will be some $1 trillion in rollovers this year alone, he noted.
But, he cautioned, the new Department of Labor (DOL) fiduciary rule prevents advisors from recommending an IRA rollover without first considering all other options—and carefully documenting that clients have been presented with the pros and cons of all options available to them.
“Most advisors don’t like the new rule,” he acknowledged. “And yes, it’s probably overkill.”
He quipped that it’s 476 pages that could be boiled down to one sentence: “Do right by your clients, which most advisors do anyway,” he said.
Though the rule may or may not survive court challenges, it's scheduled to go into effect in September. So advisors better be ready, he said.
“It will require greater documentation that you discussed all options with clients before making any moves, which is best for advisors anyway because you will look smart and concerned about your clients’ welfare, which of course you are,” he said.
A big focus of the rule is the IRA rollover. “I counted them, and there were 300 references to IRA rollovers” in the new rule, he said.
Even if it’s a one-time transaction, he explained, advisors will have to go through a process of weighing other options for client 401(k) accounts and documenting that they’ve done so.
Broadly speaking, there are two other options. The first is to keep the money in the 401(k), which is possible only if the client is still working. The second option is to take a lump sum distribution.
Slott laid out possible arguments in favor of keeping retirement savings in a 401(k). 401(k)s are federally protected from judgments against them, under ERISA rules, which IRAs are not. It’s also often possible to delay taking required minimum distributions (RMDs) from 401(k)s until retirement, which is also not the case with IRAs.
What’s more, he said, it’s easier to take an early distribution from a 401(k) than from an IRA. If you leave the job for any reason and you’re 55 or older, he said, you have access to 401(k) money without paying a 10% early-withdrawal penalty. Taxes will be due, he said, but no penalty. In fact, if you are considered a public safety employee, you can take emergency withdrawals without penalty as early as age 50, he added. With an IRA, however, you get hit with a 10% penalty if you withdraw funds before age 59½, he said, unless an exception applies.
401(k)s might also provide life insurance and loans, neither of which is the case with IRAs.
The second alternative to an IRA rollover, a lump sum distribution, might make sense if the employee has been in a company a long time and owns a substantial amount of stock in the employer’s company, said Slott.
If that’s the case, he said, the employee might be able to benefit from a tax break for net unrealized appreciation (NUA).
The NUA tax break, he said, works like this: The client must take everything out of the 401(k) all at once, following a qualified triggering event such as separation from the company. The gain in value of the company stock can then be transferred tax-free to a taxable investment account. Only the original value of those shares—the cost basis—is taxed. Everything else in the 401(k) account can be rolled over to an IRA, he said.
“The gain on the company stock only gets taxed if and when you sell those shares,” he said, “and then at the long-term capital gains rate, which can be a huge savings.”
But if none of this applies to a particular client, an IRA rollover is probably the best option. “You need to be sure, because the rollover is irrevocable,” he said.