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Your Bank > Education and Advice > CNB University

Exploring 401(k) Options for Retirees

James P. Terwilliger
James P. Terwilliger, PhD, CFP® is Senior Vice President - Group Manager, Financial Planning Strategies and can be reached at JTerwilliger@CNBank.com or (585) 419-0670 x50630.

The media have been abuzz with concerns raised by retirees or former employees of some local companies, including Kodak, about the safety of their 401(k) plans.

While such retirement plans are separate from company finances and inaccessible to creditors, rumors and coffee shop conversations can end up keeping a number of retirees and former employees from sleeping well at night.

Almost always, the money is perfectly safe, protected by federal ERISA regulations. But when a retiree is concerned about protecting his/her lifetime accumulation of employment-related savings, facts and logic often take a back seat to peace of mind.

For many, peace of mind trumps all. Fortunately, a number of attractive options exist which allow many of the benefits offered by company plans but with the ability to gain more personal control over the money.

Roll Over to a Traditional IRA

A direct tax-free rollover to a traditional IRA will maintain the money in a pre-tax state. This is accomplished with a trustee-to-trustee transfer. You want to make sure you do not receive any cash in such a distribution.

Generally, IRAs offer a bigger universe of investment choices than 401(k) plans, although you will want to make sure that you are not constrained by a limited choice of high-internal-expense “proprietary” funds that some IRA investment firm representatives may be encouraged to sell.

A big advantage is the opportunity to create a personal, face-to-face relationship with a trusted local financial advisor who can assist you in designing and managing a long-term investment strategy for your IRA.

Better yet, if you choose carefully, that advisor will be able to put together a personal financial plan and help you manage that plan over the long-term. This way, investment and other finance-related decisions can be integrated to ensure your overall financial health and well-being. Look for advisors who are CFP® certificants or for firms who have such folks available to work with you.

Roll Over to a Roth IRA

Again, a direct trustee-to-trustee transfer is the best way to manage this option.

Here, taxability is completely different. The transfer is equivalent to converting a traditional IRA into a Roth IRA. Income taxes on the rollover must be paid in the tax year the rollover is done. Reason – a Roth IRA contains after-tax money. Converting pre-tax money into after-tax money drives an income tax consequence.

Once in a Roth, the money is tax-free and all subsequent growth and future distributions are likewise tax-free. Note that certain age and holding-time restrictions may apply, depending on your age and length of time your Roth IRA has been in existence.

Transfer to a New Employer’s Plan

This is an option if you are retired but working part-time, say, for an employer that has a 401(k) plan allowing transfers in.

This may not be an attractive option if you are inclined to want to gain more control over your account. Remember the “peace of mind” factor that may be driving your decision in the first place!

And, you will lose some flexibility since you will not have access to the funds, other than through a loan, while you are working for the new employer.

Take a Cash Distribution

Unless you are facing a catastrophic financial emergency, don’t even think of this option! This is clearly a last resort.

If you take the cash, the distribution will be subject to federal and state income taxes at ordinary rates. Twenty percent is required to be withheld by your previous employer for federal taxes. Additionally, if you are under the age of 59-1/2, distributions generally are subject to a 10% early-withdrawal penalty, although there is no penalty for distributions made to an employee who attained the age of 55 before leaving the company.

Other Considerations:

  • You are not constrained to only one of the above options. You have the ability to mix and match.
  • Those retiring now may have a choice between receiving a defined-benefit pension as a lifetime annuity or a lump sum (or some combination). The above options are available for the pension lump sum portion.

This summary covers only a few of the issues needing consideration. Consider consult with one of CNB's trusted financial planners before making any change. What is right for you depends on your personal circumstances. The consequences of making a wrong choice can be disastrous.

This material is provided for general information purposes only and is not a recommendation or solicitation to buy or sell any particular security, product or service. Past performance is not indicative of future investment results. Any investment involves potential risk, including potential loss of capital. Before making any investment decision, please consult your legal, tax and financial advisors. Non-deposit investment products are not bank deposits and are not insured or guaranteed by Canandaigua National Bank & Trust, or any federal or state government or agency and are subject to investment risks, including possible loss of principal amount invested.

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