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Sean Somerville: Rolling 401(k) into an IRA can make sense

I recently met a married couple of university professors who were interested in improving their investment portfolios and getting a sound financial plan in place.

The couple, both in their early 60s, thought their ability to work with a brokerage firm was limited. After all, most of their wealth resided in university-sponsored 401(k) plans. So they didn’t think they had enough money to open their own investment accounts.

They felt stuck, but it turns out they weren’t.

It’s not always widely publicized. But many 401(k) plans allow workers 59½ and older to roll over assets in those plans to Individual Retirement Accounts — just as these professors did. These rollovers, known as “in-service, non-hardship” distributions, can be made even while workers are still employed — without any tax liability.

Relative to 401(k) plans, IRAs offer:

-More investment choices: 401(k)s and profit-sharing plans generally provide only a handful of investment choices. But an IRA offers virtually unlimited possibilities, including individual stocks and individual bonds.

-Greater distribution flexibility: An IRA generally has far fewer limitations and rules regarding distributions for workers and their beneficiaries. Most employer-sponsored plans do not allow non-spouse beneficiaries the opportunity to “stretch out” their distributions upon inheriting the account.

-The chance to develop a retirement income stream: With an IRA, workers can work with a financial advisor to develop a portfolio that will provide a steady, reliable income stream upon retirement.

-Reduced ownership in company stock: At 59½, workers are nearing their retirement years. As a result, they may want to reduce the risk that comes with owning too much company stock in their employer sponsored retirement plan.

-Professional investment advice: By moving some of their 401(k)/profit-sharing funds to an IRA, workers potentially benefit by working with a full-service brokerage firm. In this way, workers are using their IRA as the centerpiece for a relationship that will address all of their financial needs.

An “In-Service, Non-Hardship” distribution is not for everyone. There are a couple of drawbacks that could affect workers who anticipate having a good deal of financial difficulty:

-Creditor protection: If a qualified plan meets ERISA guidelines, the creditor protection of plan assets provided by ERISA is still more beneficial to workers, compared to an IRA.

-No loan provisions: Workers can typically borrow from their 401(k) plans, but IRAs do not allow loans.

Regardless of where they save their money, many “pre-retirees” might have a tough time. According to “The National Retirement Risk Index: After the Crash,” 51 percent of households are at risk of being unable to maintain their pre-retirement standard of living at age 65.

Using an in-service distribution to open an IRA might be a good way to figure out where you stand.

Sean Somerville is a financial advisor with RBC Wealth Management in Hunt Valley. He can be reached at 410-891-5031 or at sean.somerville@rbc.com. RBC Wealth Management is a division of RBC Capital Markets LLC, Member NYSE/FINRA/SIPC. This piece is intended for illustrative purposes only and is not intended to be representative.