401(k) Rollover Options Advice

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Renche33
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401(k) Rollover Options Advice

Post by Renche33 »

Following the advice of the responses to my previous posting (viewtopic.php?f=1&t=279526), I am making an effort to simplify my existing portfolio.

One obvious solution is to rollover my prior employer 401k’s. To that end, my options would be:

1. Rollover my 2 separate prior employer 401k’s into my current employer’s 401k.
2. Rollover my 2 separate prior employer 401k’s into a traditional IRA (ie with Vanguard) and reallocate the money using a three fund approach or a Vanguard Target Retirement year fund.
3. Rollover my 2 separate prior employer 401k’s into a Roth IRA (ie with Vanguard) and reallocate the money using a three fund approach or a Vanguard Target Retirement year fund.

Currently I file taxes married jointly with my husband. We are in the 35% tax bracket. I understand the implication of converting to the Roth IRA in that I would be triggering paying income tax on the amount that comes out of the 401k’s. Considering our current tax bracket, I therefore believe this wouldn't be a good decision.

Is there any benefit to rolling over my prior two 401k’s into my current 401k? As in, is there a benefit to keeping my past retirement savings in a 401k versus in an IRA? Am I dismissing the conversion into a Roth IRA option too quickly solely based on my current tax bracket?

Of note, I’m currently employed but am hoping to start a family soon and haven’t decided how much time (no more than 1 year) I would like to take off (may also continue to work uninterrupted andreturn to work after the maternity time allotted by my employer). This may change our tax bracket over the next few years to a lower bracket, but for the short term. Also of note, we are not homeowners yet but I will not need the money in my retirement accounts for a down payment.

Based on my research on this topic, and applying that to my current situation, I believe option 2 to be the best option, but please advise. Other than ease of annual asset rebalancing by consolidating my retirement savings into less accounts, and having access to lower cost funds, is there any reason to consolidate my retirement accounts now? Is there any reason to wait?

Thanks!
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Tyler Aspect
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Re: 401(k) Rollover Options Advice

Post by Tyler Aspect »

Rolling from a former employer's 401k program to your current employer's 401k makes sense when the current 401k program contains lower expensive index fund selections.

Rolling from a former employer's 401k program to a rollover IRA account makes sense when the former 401k program and the current 401k program are of the high expense type. However, having a rollover IRA account would complicate a potential future backdoor Roth IRA contribution.

Rolling from a former employer's 401k program to a Roth IRA account is generally not recommended while you are still working.
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lakpr
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Re: 401(k) Rollover Options Advice

Post by lakpr »

If you are in the 35% tax bracket, you are beyond the phase out limits for direct contributions to Roth IRA, so you need to resort to Backdoor Roth. If you roll the old 401k to a Rollover IRA, you will get caught by the prorata rule, which effectively will tax that IRA contribution twice. In other words, the backdoor Roth option would be closed forever

Option 1 and option 3 only, if I may opine. Option 3 of course comes with the tax bill.

Why not leave the old 401k alone? 401K plans also provide bullet proof creditor protections, IRAs do not. Personally, I have used my old 401k as a bond allocation account, as I had access to Vanguard Total Bond Index with an expense ratio of 0.04%. In my current 401k, the only bond fund I have has an expense ratio of 0.38%, 9 times as much. The point being, if you have multiple 401k accounts, you may be able to better rebalance your asset allocation periodically, by being able to draw upon the best and cheapest fund from each plan's choices. More choices is always good!
lakpr
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Re: 401(k) Rollover Options Advice

Post by lakpr »

I looked over the previous thread. It looks like you have excellent choices in old employer 2, and current employer. Old employer 1 plan, that plan where you are invested in DBIRX, seems to be ok but not great. I would roll over only that plan's funds into your current 401k plan. Leave the plan where you have invested into Vanguard Target Retirement 2055 fund alone.
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Earl Lemongrab
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Re: 401(k) Rollover Options Advice

Post by Earl Lemongrab »

lakpr wrote: Sun Jun 23, 2019 6:24 pm If you are in the 35% tax bracket, you are beyond the phase out limits for direct contributions to Roth IRA, so you need to resort to Backdoor Roth. If you roll the old 401k to a Rollover IRA, you will get caught by the prorata rule, which effectively will tax that IRA contribution twice. In other words, the backdoor Roth option would be closed forever
Umm, no. No double taxation. Just taxation at a high tax rate on a portion of each conversion. That does usually make backdoor Roth not advantageous.
lakpr
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Re: 401(k) Rollover Options Advice

Post by lakpr »

Earl Lemongrab wrote: Mon Jun 24, 2019 12:29 pm Umm, no. No double taxation. Just taxation at a high tax rate on a portion of each conversion. That does usually make backdoor Roth not advantageous.
Umm, Earl, if let us say the poster converted $6000 from non-deductible to Roth, and this constitutes 5% of the total tIRA amount: the $6k was contributed on a n-d basis so implicitly tax had been already paid; plus the Roth conversions will add $5700 to taxable income that is taxed again. So in that sense, the $6000 IS double taxed in the year such conversion is made (while there is a traditional IRA in place already) .

Well, at least the $5700 is.

Did I get it wrong?
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Earl Lemongrab
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Re: 401(k) Rollover Options Advice

Post by Earl Lemongrab »

lakpr wrote: Mon Jun 24, 2019 12:35 pm
Earl Lemongrab wrote: Mon Jun 24, 2019 12:29 pm Umm, no. No double taxation. Just taxation at a high tax rate on a portion of each conversion. That does usually make backdoor Roth not advantageous.
Umm, Earl, if let us say the poster converted $6000 from non-deductible to Roth, and this constitutes 5% of the total tIRA amount: the $6k was contributed on a n-d basis so implicitly tax had been already paid; plus the Roth conversions will add $5700 to taxable income that is taxed again. So in that sense, the $6000 IS double taxed in the year such conversion is made (while there is a traditional IRA in place already) .

Well, at least the $5700 is.

Did I get it wrong?
Yes, you got it wrong. Once money goes into the IRA it's mixed together, and the 6k after-tax sets or increases the basis of the account. When the conversion is made, the taxes are computed on a pro-rata basis. The basis on the remaining money is adjusted by the taxes paid. You only pay on the pro-rated share of the conversion every time. There is no double-taxing.
lakpr
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Re: 401(k) Rollover Options Advice

Post by lakpr »

My point is that, IN THE YEAR the conversion took place, the $5700 is double taxed. Yes I know that the basis in the mix that is left after conversion is increased by $5700; but to realize that tax savings on the basis, the account holder must wait until the IRA is completely drained (which could be years away), or converted entirely to Roth (which likely would kick the account holder into a very high tax bracket), or roll over the traditional IRA less the basis into a workplace plan (if that choice was available in the first place, why didn’t the account holder do it before the conversion? The implicit assumption is that this choice wasn’t available). All unpalatable choices, and given the Roth conversions are non-reversible, the end effect is double taxation of the $5700 used in this example.

Again I emphasize: IN THE YEAR the conversion is made, the end effect is double taxation. Just that one tax year, no more. I am not looking at the entire time horizon from current year till retirement when the account is finally drained. Or may be not even then, and the account holder dies leaving the mixed IRA to heirs.
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Earl Lemongrab
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Re: 401(k) Rollover Options Advice

Post by Earl Lemongrab »

lakpr wrote: Mon Jun 24, 2019 2:19 pm My point is that, IN THE YEAR the conversion took place, the $5700 is double taxed.
No. It's not the same money. It's like you poured a cup of milk into a gallon of water, mixed it around, then poured out a cup of the mixture. It's not a cup milk of anymore, and thinking of it as a cup of milk only confuses the situation.

Nothing ever gets taxed twice here. Every time you convert, there will be some of the conversion that is pretax (which could have been there for years or recently added) and some after-tax (which could have been there for years or recently added). When you added 6000 to the IRA, it got mixed all in with what was there. When you did the conversion, you came up with a mix that was some of what you just put in and some that was from the old rollover. You only pay tax on the pretax percentage.
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ruralavalon
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Re: 401(k) Rollover Options Advice

Post by ruralavalon »

Renche33 wrote: Sun Jun 23, 2019 5:03 pm Following the advice of the responses to my previous posting (viewtopic.php?f=1&t=279526), I am making an effort to simplify my existing portfolio.

One obvious solution is to rollover my prior employer 401k’s. To that end, my options would be:

1. Rollover my 2 separate prior employer 401k’s into my current employer’s 401k.
2. Rollover my 2 separate prior employer 401k’s into a traditional IRA (ie with Vanguard) and reallocate the money using a three fund approach or a Vanguard Target Retirement year fund.
3. Rollover my 2 separate prior employer 401k’s into a Roth IRA (ie with Vanguard) and reallocate the money using a three fund approach or a Vanguard Target Retirement year fund.

Currently I file taxes married jointly with my husband. We are in the 35% tax bracket. I understand the implication of converting to the Roth IRA in that I would be triggering paying income tax on the amount that comes out of the 401k’s. Considering our current tax bracket, I therefore believe this wouldn't be a good decision.

Is there any benefit to rolling over my prior two 401k’s into my current 401k? As in, is there a benefit to keeping my past retirement savings in a 401k versus in an IRA? Am I dismissing the conversion into a Roth IRA option too quickly solely based on my current tax bracket?

Of note, I’m currently employed but am hoping to start a family soon and haven’t decided how much time (no more than 1 year) I would like to take off (may also continue to work uninterrupted andreturn to work after the maternity time allotted by my employer). This may change our tax bracket over the next few years to a lower bracket, but for the short term. Also of note, we are not homeowners yet but I will not need the money in my retirement accounts for a down payment.

Based on my research on this topic, and applying that to my current situation, I believe option 2 to be the best option, but please advise. Other than ease of annual asset rebalancing by consolidating my retirement savings into less accounts, and having access to lower cost funds, is there any reason to consolidate my retirement accounts now? Is there any reason to wait?

Thanks!
I agree that the Roth conversion is a bad idea. I think you have correctly identified the other alternatives.

It depends almost entirely on expenses and funds offered, information not provided in your post. There are three basic choices.

1) If the funds offered in the old 401k are good with low expense ratios, and there is no account maintenance fee charged for keeping the account there or only a small fee, then it may be best to leave the old 401k where it is.

2) If the new 401k offers similar or better funds with similar or lower expense ratios, and will accept a rollover from the old 401k, then it may be best to roll the old 401k over into the new 401k.

3) If neither 401k offers good funds with low expense ratios then it may be best to roll the old 401k over to an IRA at a low cost provider like Vanguard or Fidelity.

Wiki article, 401k, ”Rollover to IRA".

Additional considerations include:

1) the convenience of having one fewer account to keep track and manage, if you move the old 401k into the new plan or an IRA;

2) depending on your state, a 401k plan may have greater protection from creditors than does an IRA;

3) a rollover to an IRA may impede ability to do a Backdoor Roth IRA for higher income individuals, and

4) a 401k allows distributions penalty free starting at age 55 if no longer employed, and has other provisions for withdrawals earlier than age 59.5. Wiki article, 401k, "Move to new 401k".
"Everything should be as simple as it is, but not simpler." - Albert Einstein | Wiki article link: Bogleheads® investment philosophy
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