Author Topic: Inherited 401k plan.  (Read 5034 times)

Faelan44

  • 5 O'Clock Shadow
  • *
  • Posts: 1
Inherited 401k plan.
« on: May 27, 2015, 12:23:18 PM »
Good afternoon everyone, this will be my first post on the Mustache. I did a quick search on the matter, came up blank, so I will lay it out for you guys, and hope for some good advice. Two years ago my father died abruptly. After waiting two years I am now ready to make some finical moves. I am 40 years old, my wife and I work in the public sector, our house is paid for, and we have a six figure saving act. State retirement is looking pretty good so far. When my Dad passed I inherited his 401K plan, the value of the plan is around 400K, and plan is managed by Merrill Lynch. I am not a fan of 401K plans and have moved much of it into cash in the last month.  Call me crazy, but I think at this time in my life I’m willing to take the risk and crash it out with the penalties. I would re-invest it. I prefer to stay liquid with my money in today’s age. Any suggestions would be greatly appreciated, thank you.

seattlecyclone

  • Walrus Stache
  • *******
  • Posts: 7254
  • Age: 39
  • Location: Seattle, WA
    • My blog
Re: Inherited 401k plan.
« Reply #1 on: May 27, 2015, 12:37:47 PM »
Call me crazy, but I think at this time in my life I’m willing to take the risk and crash it out with the penalties.

Okay, you're crazy. Keeping your money invested is the only way to grow your money in the long term. Putting it all in cash is throwing up your hands, saying you don't trust businesses in general to keep making a profit, and that guaranteed loss of purchasing power to inflation is better than market risk.

Now, whether you should keep the money in the inherited 401(k) is a separate question. There are no early withdrawal penalties for an inherited account, but the entire amount will be taxed as regular income when you withdraw it. You probably don't want to pay taxes on $400k in one year if you can instead pay taxes on $50k for eight years (for example). The higher tax brackets will kill you if you take out a lump sum. Find a low-fee fund in the plan, get most of that cash invested again, and withdraw only part of it each year.

Tremeroy

  • 5 O'Clock Shadow
  • *
  • Posts: 65
Re: Inherited 401k plan.
« Reply #2 on: May 27, 2015, 12:46:17 PM »
Good afternoon & welcome. I am not entirely sure what sort of advice you are looking for, but I have a couple of general thoughts.

First, if I were in your shoes, I would rollover the 401(k) into an inherited IRA at a discount brokerage. The possible downside is that you will be forced to take minimum distributions (if you are not already). The upside is that should end up with lower fees & greater flexibility into the future. The distributions you take, whether from the existing 401(k) or from the inherited IRA, will be taxable at ordinary income rates, so you should definitely pay attention to your marginal tax rate & not take a big distribution if you can avoid it.

One of my biggest financial regrets was taking out a very large inherited IRA distribution to pay off student loans; while paying off the loans was great to do, handing over 40% to the state & federal governments was not too fun. I could have avoided having such a massive marginal rate simply by spreading the distributions over 2 years!

surfhb

  • Guest
Re: Inherited 401k plan.
« Reply #3 on: May 27, 2015, 12:51:06 PM »
Yes.....you are basically guaranteed  to be losing money if you are not investing it. 

Why are you against putting your money to work for you?  How would you reinvest it after a HUGE tax hit?  I think you should read "A random walk down Wall Street" to start with.   Get yourself educated first before you make such a major decision which will impact you and your family
« Last Edit: May 27, 2015, 12:54:09 PM by surfhb »

Another Reader

  • Walrus Stache
  • *******
  • Posts: 5327
Re: Inherited 401k plan.
« Reply #4 on: May 27, 2015, 12:52:33 PM »
I don't know the rules for an inherited 401(k).  You can probably roll this over into an inherited IRA, but you will likely have required minimum distributions.  The money can continue to work for you, as the RMD's for a younger person are relatively small. 

I would not simply withdraw the money.  Over half of it could go to your Uncle Sam and your State treasury.  You would be smart to talk to a CPA or other fiduciary that is knowledgeable about inherited 401(k)'s.

If you do not want to take stock market risk, invest the rollover IRA in CD's and treasury instruments until you are comfortable making different decisions.

forummm

  • Walrus Stache
  • *******
  • Posts: 7374
  • Senior Mustachian
Re: Inherited 401k plan.
« Reply #5 on: May 27, 2015, 01:08:19 PM »
Call me crazy, but I think at this time in my life I’m willing to take the risk and crash it out with the penalties.

Okay, you're crazy.

Hey, be nice. Is it crazy to give up lots of free money?

Huh, oh yeah, I guess it is.

OP, you're going to cost yourself a lot of money if you keep your investments in cash, take penalties, etc. A LOT of money. Roll it over to a low-cost IRA (like Vanguard) as lagredell says. Take the required minimum distributions and leave the rest invested in a Target Retirement 2045 Fund.

Or if you want to not have much money, a better way to do that would be to donate this all to charity.

CashFlowDiaries

  • Stubble
  • **
  • Posts: 178
  • Location: Indianapolis, IN
  • Follow me on my journey to Financial Freedom!
    • Cash Flow Diaries
Re: Inherited 401k plan.
« Reply #6 on: May 27, 2015, 01:23:30 PM »
Good afternoon everyone, this will be my first post on the Mustache. I did a quick search on the matter, came up blank, so I will lay it out for you guys, and hope for some good advice. Two years ago my father died abruptly. After waiting two years I am now ready to make some finical moves. I am 40 years old, my wife and I work in the public sector, our house is paid for, and we have a six figure saving act. State retirement is looking pretty good so far. When my Dad passed I inherited his 401K plan, the value of the plan is around 400K, and plan is managed by Merrill Lynch. I am not a fan of 401K plans and have moved much of it into cash in the last month.  Call me crazy, but I think at this time in my life I’m willing to take the risk and crash it out with the penalties. I would re-invest it. I prefer to stay liquid with my money in today’s age. Any suggestions would be greatly appreciated, thank you.

I dont blame you my friend. I would do the same exact thing.  Why would you do a 401k when you want to retire way earlier then 65.  That is my whole point, there is no way im waiting to 65 to retire so no matter what im taking the tax hit to take it out early.  This only makes sense though if you use that money to reinvest in another vehicle.  For example, i did cash out my 401k, it was no where near what you got inherited but I used that money to buy a rental property and now im cash flowing every month off it.

Do something like that and youre golden.  If I were you, i would use that money to pay off your house and spend every last other cent reinvesting in more real estate.  Thats just me though.

forummm

  • Walrus Stache
  • *******
  • Posts: 7374
  • Senior Mustachian
Re: Inherited 401k plan.
« Reply #7 on: May 27, 2015, 01:30:59 PM »
Good afternoon everyone, this will be my first post on the Mustache. I did a quick search on the matter, came up blank, so I will lay it out for you guys, and hope for some good advice. Two years ago my father died abruptly. After waiting two years I am now ready to make some finical moves. I am 40 years old, my wife and I work in the public sector, our house is paid for, and we have a six figure saving act. State retirement is looking pretty good so far. When my Dad passed I inherited his 401K plan, the value of the plan is around 400K, and plan is managed by Merrill Lynch. I am not a fan of 401K plans and have moved much of it into cash in the last month.  Call me crazy, but I think at this time in my life I’m willing to take the risk and crash it out with the penalties. I would re-invest it. I prefer to stay liquid with my money in today’s age. Any suggestions would be greatly appreciated, thank you.

I dont blame you my friend. I would do the same exact thing.  Why would you do a 401k when you want to retire way earlier then 65.  That is my whole point, there is no way im waiting to 65 to retire so no matter what im taking the tax hit to take it out early.  This only makes sense though if you use that money to reinvest in another vehicle.  For example, i did cash out my 401k, it was no where near what you got inherited but I used that money to buy a rental property and now im cash flowing every month off it.

Do something like that and youre golden.  If I were you, i would use that money to pay off your house and spend every last other cent reinvesting in more real estate.  Thats just me though.

I differ from this advice.

You can take money out of the 401k before age 59.5 through the Roth IRA pipeline or Substantially Equal Periodic Payments. EDIT: Not with an Inherited IRA

The Inherited IRA may make you take some money out anyway.

I recommend talking to a CPA about options. But don't get into any high-fee funds.
« Last Edit: May 27, 2015, 01:36:57 PM by forummm »

Another Reader

  • Walrus Stache
  • *******
  • Posts: 5327
Re: Inherited 401k plan.
« Reply #8 on: May 27, 2015, 01:33:38 PM »
Inherited accounts have different rules.  For example, you cannot convert an inherited traditional IRA to a Roth.

MDM

  • Senior Mustachian
  • ********
  • Posts: 11477
Re: Inherited 401k plan.
« Reply #9 on: May 27, 2015, 01:35:52 PM »
Why would you do a 401k when you want to retire way earlier then 65
Good question.  The answer is "because having the 401k is likely an important part of the best way to accomplish the stated goal."

MDM

  • Senior Mustachian
  • ********
  • Posts: 11477
Re: Inherited 401k plan.
« Reply #10 on: May 27, 2015, 01:51:55 PM »
I am not a fan of 401K plans and have moved much of it into cash in the last month.
Does that mean you have already withdrawn the funds from the 401k (and thus have to pay taxes on that lump sum), or did you move the funds to a cash account within the 401k?

Tremeroy

  • 5 O'Clock Shadow
  • *
  • Posts: 65
Re: Inherited 401k plan.
« Reply #11 on: May 27, 2015, 02:42:15 PM »
The rules on inherited 401ks are very plan-specific; without reviewing the plan materials, none of us have enough information to recommend keeping the money parked in the plan. The only thing that we can say with certainty is that you can do a trustee-to-trustee transfer into a new Inherited IRA.

Your withdrawals / distributions from either plan are taxed as ordinary income in the year that you take out the cash. Inherited IRAs have a minimum distribution requirement based on the plan value at 12/31 & how long the IRS thinks you'll live. There are some nice, free calculators available at various brokerage sites. I prefer Schwab's becuase you can plug in an expected earnings rate on the money left in the account: http://www.schwab.com/public/schwab/investing/retirement_and_planning/understanding_iras/ira_calculators/beneficiary_rmd

Two other pieces of advice: 1) If you are interested in allocating a portion of your assets to fixed income, an IRA is a better place than a taxable brokerage account. 2) You would be better off avoiding holding REITs, MLPs, & any other tax-sheltering investment assets in the Inherited IRA because of some arcane rules on Unrelated Business Taxable Income.

Frankies Girl

  • Magnum Stache
  • ******
  • Posts: 3899
  • Age: 86
  • Location: The oubliette.
  • Ghouls Just Wanna Have Funds!
Re: Inherited 401k plan.
« Reply #12 on: May 27, 2015, 03:08:41 PM »
Holy crap, I really hope you didn't already take all the money out yet!! That seriously would be a huge mistake since that money would mean a HUGE tax hit that you absolutely could have avoided and you lose the amazing ability to tap a tax deferred account at any time. Seriously - if you have 400K in there and pulled it out all at once, it would be the equivalent to bumping yourself up into the 33% tax bracket and owning close to 100K in federal taxes and that's not even taking into account what you do actually earn and owe taxes on... DON'T DO IT!


Convert it to an inherited IRA (and move it to someplace like Vanguard or Fidelity) invest in some index funds that fit your asset allocation, and you're golden.

I have an inherited IRA from my father who also passed away a few years ago... it's an amazing investment vehicle and is even more amazing for anyone considering early retirement.

As long as you have it in something with moderate growth (I have a mix of total stock market, REIT and bond index funds), you have a perfect tax deferred vehicle that you can withdraw funds from penalty free at ANY AGE with no worries about the tax efficiencies because it's all in an IRA, so having things like bonds isn't going to generate taxable events that siphon off even more of your money.

The fact that you will pay taxes on the distributions (taxed as ordinary income) is a minor thing and as long as you keep up with your general income (I use TurboTax's taxcaster to run different scenarios) you will be able to use the distribution(s) to supplement your living expenses pretty much forever.


And slightly off subject (i.e. not specifically about your inherited account): CashFlowDiaries gave very bad advice; do not avoid 401ks in general and do not cash out any accounts and pay penalties if you already have one; it is completely false that you can't tap your own personal 401k/403b/retirement accounts before 59.5, but sadly most people don't do the necessary research before deciding to not contribute/cash out. Do your homework and avoid making the same mistakes! Roth pipeline and SEPP/72t are two such methods to tap tax and penalty free that would work and have worked for early retirees.
« Last Edit: May 27, 2015, 03:21:26 PM by Frankies Girl »