The Advantages of Keeping Your 401k

If you are like me, you might get tired of hearing every “investment advisor” insist that you need to roll over your 401k to an IRA. They often present this as a major mistake if you don’t. While rolling a 401k to an IRA has its advantages, these commission-driven “advisors” rarely discuss the benefits of leaving your 401k untouched. I have both a 401k and an IRA, and I appreciate the advantages of each. I plan to maintain both accounts for life because the 401k offers significant benefits.

Reasons to Keep Your Money in a 401k

Presented below is a list of strong reasons to leave money in your 401k.

1. Beneficiary Flexibility

   A 401k (or any qualified plan) can be rolled over to an IRA by your heirs after your death, even if they are not your spouse. In contrast, an IRA must be fully withdrawn within 10 years after your death by any heir other than your spouse.

   
   

   For example, let’s say I have $250k in an IRA and $250k in a 401k. If my 9-year-old grandson, Kiernan, is the beneficiary of my IRA, he must withdraw the entire amount by the end of the 10th year after my death. Unfortunately, he is not considered an “eligible designated beneficiary” because he is my grandson, not my son. However, if I leave him my 401k, he can set up a new IRA in the name of the deceased to receive the rollover. He will still need to withdraw the total amount within 10 years, but rolling it over to an IRA means he will lose the benefits outlined below. Many advisors suggest rolling over the inherited 401k to an IRA immediately, citing this rule, but I believe it’s essential to consider the bigger picture.

   
   

2. Creditor Protection

   A 401k offers unlimited protection from creditors, while an IRA’s protection is limited to an inflation-adjusted $1,000,000 in bankruptcy (expected to be $1.7 million in 2025). For individuals with large 401ks, especially those in high-liability fields or facing creditor issues, rolling over to an IRA could be disastrous. This would expose any excess funds in the IRA to creditors, whereas keeping the money in the 401k provides better protection.

   
   

3. Early Withdrawal Flexibility

   If you leave your 401k employer for any reason at age 55 or older, you can withdraw funds without the 10% early withdrawal penalty. This is a significant advantage over IRAs, where the penalty applies until age 59 and a half. If you roll your 401k into an IRA, you lose this age 55 special rule.

   
   

4. Public Safety Employee Benefits

   The age 50 special rule allows public safety employees to withdraw funds without penalty at age 50 or older. However, this benefit is lost if you roll your 401k into an IRA, which enforces the age 59 and a half rule instead.

   
   

5. Required Minimum Distributions (RMDs)

   If you are still working for your 401k sponsor at age 73, even part-time, there is no requirement to begin RMDs (except for owners). This option is not available with an IRA, even if it is funded from a 401k rollover.

   
   

6. Advisor Fees

   Rolling a 401k to an IRA with an “advisor” often means that the advisor will make investments in the IRA, resulting in commissions paid to them. It may take years to earn enough extra money to offset these fees, especially when many 401k plans offer free advisory services.

   
   

7. Lower Fees

   Generally, 401k plan fees are much lower than those charged by independent advisors. Additionally, many IRAs come with annual account maintenance and operational fees that can add up over time.

   
   

8. Borrowing Options

   You can borrow up to $50,000 (currently) from your 401k without tax or penalty. Unfortunately, you cannot borrow from your IRA.

   
   

9. Net Unrealized Appreciation (NUA) Rule

   An IRA forfeits the incredible NUA rule available to a 401k. For instance, if your 401k contains company stock that you purchased for $25,000 and is now worth $200,000, rolling that stock into an IRA means you will pay tax on the full value as you withdraw it. However, if you take it out of the 401k, you will only pay ordinary income rates on the $25,000 cost. You won’t owe taxes on the net unrealized appreciation until you sell the stock, and even then, you only pay capital gains rates. This NUA treatment is lost if the stock is rolled into an IRA.

   
   

Rolling a 401k to an IRA can be a good strategy, but too often, commission-oriented advisors fail to mention the advantages of keeping the 401k intact. If your advisor does not discuss these rollover negatives, it may be time to reconsider their advice!