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What do I do with an old 401(k)? [Financial Fridays]

I have started to do a segment on fridays called “Financial Fridays” where I will write about something having to do with personal or business finance. I have always been intrigued with money and making it work so this is a natural progression for this blog. If you have questions you want to submit just click the contact me link above.

Hey,
Because I’m doing a lot of sub contract and freelance work, I don’t
currently have an active 401k. I have money tied up in two old ones, but I’m
not contributing to either because I’m not working for the employers that
have the 401k’s.

I’d like to consolidate these into one account independent of an employer..

Is anyone doing this, or have any suggestions?

Thanks

To short answer your question you can rollover the 401(k) into a traditional IRA account at any broker. You can either contact your banks investment branch or just jump on etrade.com and have one setup in minutes. Because the 401(k) and the Traditional IRA are all pretax money you won’t have to pay any penelties or taxes on the money. Also being self-employed allows you to setup what is called a SEP IRA (Simplified Employee Pension Individual Retirement Account). These are a little more difficult to get setup and if you don’t plan on being self-employed for a while this might not be the best way to go.

Now let me go into some details on the why…

401(k)’s are a great investment vehicle but are not the best option we have out there. What I suggest to people is to only put in money into your 401(k) up to the employer match. Because the way 401(k)’s work you are usually locked in to only investing the money in 10-20 funds that are preselected. These are either picked by the group manager or your employer. The amount of funds depends on how much your employer wants to pay in fees so larger employers tend to have more funds available.

The reason I say to only do up to the match and no more is because Congress a few years back gave us one of the greatest gifts they could called the Roth IRA. This is an IRA account that is after tax money, meaning you won’t have the ability to “write off” your contributions at the end of the year. The nice thing is that when you pull the money out when you are ready to retire you DON’T PAY ANY TAXES ON IT. That’s right, if you have all your money in a Roth you can say bye bye to taxes after 60!

It’s amazing how just a couple of dollars a paycheck can really add up!

J.J. Merrick on April 25, 2008 | Filed Under ColdFusion, Finance, Personal

5 Comments

Andy Matthews  on April 25th, 2008

My financial advisor recommended that I have two 401k accounts. One is the “active” one which has money contributed to from my current employer, and myself. The other is the “inactive” one which is technically my main 401k.

While I’m working at a company who offers 401k matching I (and they) will contribute to the active one. When I switch jobs, I’ll roll over “active” account over into the “inactive” one and start a new 401k at the new job.

The key here is matching funds from your employer. If they don’t offer matching funds then don’t even bother setting up an account with that company as there are better, more efficient, ways to invest.

J.J. Merrick  on April 25th, 2008

@Andy Exactly. 401(k)’s are just too limiting but when my company offers match up to 4% of your salary and it is 100% vested immediately you can’t beat that! It’s like an automatic 4% raise.

JAlpino  on April 25th, 2008

I set up a SEP-IRA a little over a year ago with Vanguard, and I have to say that it was super easy to do, and even easier to contribute to once set up.

One thing that I think is also worth mentioning about, is the contribution levels that a SEP-IRA, Trad IRA and Roth IRA have.

Roths and Traditional IRA’s limit you to about $4500 (I think) a year. Where as with a SEP-IRA, you can contribute up to 25% of your income or up to $45k, which ever is the lesser of the two.

J.J. Merrick  on April 25th, 2008

@JALpino That is one aspect I didn’t think about. The Roth is up to $5000 for 2008 and will increase $500 a year for the foreseeable future.

Wow I didn’t know that you could put up to 45k in one… that is really good.

JAlpino  on April 25th, 2008

@J.J- yeah I was really surprised when I found that out… unfortunately however, I don’t have the luxury of contributing that much =) but its nice to know if I ever did, that I could ramp up.

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