If you desire to rollover 401k to an IRA account, then it is vitally important that you understand the differences and the options available. Many people eventually find themselves working for corporations that offer retirement plans. Often, the pension plan presented to a worker is a 401k that receives some kind of matching contribution or other assistance from the employer. These plans are very attractive because they can be preserved from immediate taxation and easy to manage. The worker simply hands over the money every month and the plan provider handles the investments. There are risks involved.
There are investment options outside those offered by your employer in the 401k. Before you become tangled up in a 401k, you should be aware of all the differences and possibilities. The primary alternative for the average person trying to save for retirement is the IRA (Individual Retirement Account).
What Are the Differences Between the 401k and IRA?
Before looking at the differences between these two retirement savings options, it is important to have a profound understanding of each as a separate plan before rolling over 401k investments.
The 401k
In 1978, the IRS made possible the 401k as an alternate way for companies to help their workers save for retirement. This was not really intentional but was discovered as an interpretation of some parts of the IRS Code in 1980 by a benefits consultant who developed the idea. This was an alternative to the traditional pension plans that many large corporations had founded and managed on their own. Those plans continued to exist, though some of them have gone bankrupt since, alongside the new 401ks that other companies began to utilize.
Tax Protection
Originally, the funds contributed to a 401k were tax-protected until the time of withdrawal at retirement. This means that the funds contributed did not count as income. Someone who made $60,000 per year but contributed $4,000 to the fund would only be taxed as someone making $56,000 per year. The possible savings become much more significant when you take into account other deductions that will further lower the tax rate for a person.
Employer Contributions
Frequently, these benefits are compounded by the employer’s contribution. Employers sometimes make partial contributions or even matching contributions as part of their contract with the employee. These deposits do not count as income for the employee who will still be able to enjoy them when he or she retires and begins making withdrawals. These contributions cannot exceed $17,000 at the present time, though this amount is raised frequently to reflect inflation and offer more opportunity to people seeking retirement.
Retirement
When the employee turns 59.5, it is feasible for him or her to retire officially and begin receiving funds from the account. Withdrawals attempted before that date are penalized with taxation and usually a 10% fine that goes back to the provider. However, withdrawals are not required at this age. A person can continue to work and contribute to the 401k until age 70.5 is reached. At that point an employee must begin withdrawing funds or suffer a financial penalty as high as 50% of each distribution that would be expected at that time.
Recent Adjustment
In 2006, the IRS adjusted the 401k rules to allow contributors to this fund to pay taxes before placing funds in their accounts. Since the money has been taxed upon entry, the IRS cannot tax withdrawals in the future. The government essentially used the Roth IRA rules and applied them to 401ks. Employers are not forced to offer this option to their employees.
The Individual Retirement Account (IRA)
The IRA was developed as a result of the Tax Reform Act of 1986. It is essentially a private alternative to the 401k. It allows people to save for retirement with tax protection even when they do not work for a large corporation or for the government.
There are several types of IRA. The original format for the IRA came out in 1986. Since other versions have been released over the years, this original IRA has come to be known as the Traditional IRA. It remains the basic outline for the other versions, all of which play off of its basic ideas.
The Traditional IRA
Much like a 401k, the Traditional IRA allows you to make tax-free contributions. As with the 401k, withdrawals will eventually be taxed. At present, account holders can contribute $5,000 or $6,000 per year depending on their age.
Contributors must not make withdrawals before the age of 59.5 in order to avoid fines and penalties. Also, they must begin withdrawing by age 70.5 or suffer additional fines. These withdrawals are taxed at the present rate rather than at the rate which would have affected the contributor at the time of their earning. This is usually helpful to retirees because their income is often less than what was while they worked.
The Roth IRA
Introduced to the public in 1997 in the Taxpayer Relief Act, the Roth IRA threw what was, at the time, a unique twist into the retirement fund issue. Some people were concerned about being taxed during their retirement because they feared that they would have a larger income or that tax rates would likely be higher when they retired. The Roth IRA taxes contributions. When contributors make withdrawals after retirement, they are not taxed. This allows an essentially tax-free retirement.
There are some other very significant and often unnoticed differences about the Roth IRA. For instance, it is possible to withdraw some of the funds before age 59.5 without suffering any penalty. There is no upper age limit for withdrawal and a person can even decide to leave the funds untouched until death and leave them to a beneficiary. The beneficiary may, if desired, combine this IRA with his or her own.
The SEP IRA
This IRA allows businesses to make IRA contributions in an employee’s name. They are typically used by the self-employed and small businesses.
Self-Directed IRA
Most IRAs have fairly tight controls over their investments, even if their options are a little wider than those usually offered by 401k providers. A self-directed IRA allows participants to choose their underlying investments. In some cases, these choices are restricted. In others, the custodian of the IRA allows broad leeway to contributors.
A Comparison of the 401k and the IRA
While the Roth IRA is a bit distinct, there is a lot of similarity between 401ks and IRAs. The tax protection and the rules surrounding withdrawals are all very similar. From that viewpoint, the IRA looks merely like a private version of the 401k.
There are some key differences, though. A 401k is often invested heavily in a few certain stocks, including that of the sponsoring company. An IRA, on the other hand, usually offers a broader group of underlying assets and allows you to make some limited changes if you are not happy with results. However, an IRA allows much less contribution than a 401k and that is a huge difference for some earners.
That IRAs are kept separate from your employer is very important. If you can remember any of the economic disasters of the last few decades, you remember entire companies going up in smoke and all their workers losing their jobs. You might not have noticed that these workers also lost their retirements because their 401ks were so invested in company stock. This might be the key reason to seek an IRA over a 401k. There is one other important reason that we have not covered yet.
Precious Metals IRA
The precious metals IRA is a last option that is often not discussed or even known about, especially if you have a 401k. Most plans do not offer investments in precious metals, which leaves investors little options.
Rolling over 401k accounts into an IRA investment is the only option left. Moreover, many desire to rollover 401k investments into precious metals IRAs in order to hedge against skyrocketing inflation and devalued currencies. There is no guarantee that a company that manages the 401k will do a good job. Inflation will eat away at hard-earned savings. The risks are too great to do nothing. Therefore, many flee to precious metal investment options.
There are many different precious metals in the world: Indium, Osmium, Ruthenium, Rhenium, Iridium, and Rhodium. However, the most well-known, at least among investors, are gold, silver, platinum and palladium.
Palladium
It is a precious metal in the platinum family. It is used in the auto industry for air pollution. It is also used in electronics for its conductivity. Jewelers use it to make white gold alloy.
Platinum
This is use in catalytic converters in order to control air emissions from cars. It is also used for a wide array of uses in the electronics industry.
Silver
It is in high demand in many industries and for many uses: mintage for silver coins, jewelry, circuitry, photography, and electronics of various types. It is also used against bacteria and infection and has uses in dentistry. Silver is in high demand because of the more recent technological uses such as in cell phones. However, many have reported that there is a worldwide shortage of silver. This means, according to simple rules of supply and demand, that the price of silver will continue to go up. There is actually great potential for a silver IRA investment. Many focus on gold while missing one of the best kept investment secrets — silver.
Gold
Without doubt gold is the most popular investment and that which best hedges against inflation. Like other metals it has many uses: jewelrey, aerospace, glass, electronics, dentistry and many others. Gold is probably most well known for coins and use as a currency. It is very desirable for its luster and durability. Many invest in gold ira accounts in order to hedge against inflation and make a handsome profit as many have done in the past decade.
So before you rollover 401k to silver and gold IRAs, contact a custodian of a company that can send you a free information kit that will educate you and begin the learning process. If they offer a kit, then that is a healthy sign. They will also be able to help you through the process so that you can avoid 401k withdrawal penalties. In the end, investing in precious metals will be one of the best investment decisions that you made.