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Pros Vs. Cons

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I will be 60 in Feb 2004. I will retire in June of that same year. I would like to know the pros and cons of rolling over my 403b to an IRA or leaving it with the insurance company for withdrawals.

 

Norm

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Guest Chuck Yanikoski

In general, it does not matter a lot: both plans are tax-sheltered in the same way, and (assuming you stay retired) both have the same rules for required minimum distributions starting at age 70-1/2. The IRA Rollover would not be a taxable event, if executed properly.

 

The details could make a difference, though.

 

If your 403(b) funds are in an annuity (which remains the case, for most people), you might want to consider converting some or all of it to a guaranteed lifetime income, especially if you are healthy. Or, since interest rates are unusually low right now, you might want to consider doing this later on, when you will get more for your money. The point is: if you want this kind of option, you can get it for free in the plan you area already in. If you move your money to another plan or another product, you will have to pay a fee to convert to a guaranteed lifetime income. Most people do not, in fact, opt for lifetime incomes, but in my own view, many of them are missing out on a smart bet.

 

You also need to consider fees. If you are paying high annual fees, you might pay lower fees elsewhere. You might even consider a self-directed IRA that would be more work for you, but might save you more on fees (depending on how much investment trading you do and what kind of commissions you pay for it). Your current plan/product may involve surrender fees, and there could be fees to set up a new account/product, so make sure you understand all the costs of the transaction, as well as the comparative ongoing fees. (It is also possible that your existing 403(b) product provider will handle the rollover for you, keeping the funds in the existing product with no transaction fee and no change in annual fees.)

 

If you want more investment options, or if you do want to have more personal control over the investment, the IRA Rollover could be a good option for you. 403(b) plans are more restricted in terms of what kinds of investments can be used; IRAs are more flexible that way, and can permit personal, individual control. By the same token, not many individual investors can actually beat the market, so this can be a risky strategy, depending on how you implement it.

 

The IRA also gives you the option of converting some or all of your account to a Roth IRA, which could be advantageous for you if tax rates go up in the future (as some of us think is pretty much inevitable). At present, you cannot get a Roth 403(b) plan, or move money directly from a 403(b) into a Roth IRA.

 

One advantage of many 403(b) plans is that they often have loan provisions. You can borrow money to cover, say, a medical emergency, then pay it back into the plan and resume the tax shelter. IRAs do not, by law, permit loans at all. Some 403(b) plans also do not permit loans, so if this feature interests you, make sure you have it before you make a decision on this basis!

 

In sum: there is no "right" answer to this question. If you have been happy with your 403(b) performance, there is not necessarily any compelling reason to change. If you are not that happy, you could perhaps switch to another 403(b) provider using a transfer. Or you could switch to an IRA and have even more choices. Whether that matters or not is up to you.

 

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Most people do not, in fact, opt for lifetime incomes, but in my own view, many of them are missing out on a smart bet.

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Chuck------How is signing over the title to your capital in return for a fixed lifetime income a smart bet?

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JLF,

 

A lifetime annuity is a type of "longevity insurance". Turning some of your retirment accumulation into an income (which never varies) can take some of the anxiety out of retirement. The fact that most people do not opt for lifetime annuities may (among many other things) say that they think they can successfully manage their own retirement assets. Does the general public have the financial knowledge to do this?

 

Alec

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Guest Chuck Yanikoski

No question, there are two sides to the story, and I certainly would not argue that opting for a lifetime annuity is smart for everyone, or that many people should annuitize ALL of their financial assets. The reasons most people do NOT annuitize, I think are three: (1) many people don't know about the option; (2) many people do not want to give up direct ownership or control of their assets; (3) many people are afraid that they will buy a lifetime income, then die the next day, and that the insurance company will get to keep all their money (though you can easily get lifetime payouts that are a little smaller but that will guarantee you a minimum of 5, 10, 15 or 20 years of payouts, either to yourself or to a beneficiary).

 

The main arguments in favor of annuitizing some of your income are: (1) no matter how long you live, you will always get a payment, even if you set the world record and live to be 126; and (2) because the insurance company is pooling your life expectancy with that of a lot of other people, it can afford to assume that (as a group) you will all die pretty much when expected, and therefore it can pay out the principal and interest based on a conservative but not-too-conservative estimate of how long they will have to do it. If you are trying to do this on your own, however, you either need to take a VERY conservative estimate of your likelihood of dying and therefore withdraw less from your fund every year, or else you have to take a chance that you will live well into your 80s or 90s and your money will just run out. This second point is slightly complicated, but the ups is that (in general) you can get a higher income from an insurance company than you can afford to dare take from a self-managed fund. For people who are retired and struggling to make ends meet, this can be a very beneficial option.

 

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The reasons most people do NOT annuitize, I think are three: (1) many people don't know about the option.

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On the contrary they are made aware of the option by the insurance company at the point of "retirement". Annuitizing is another huge money maker for the insurance company. All should know that the insurance company is assuming, by charging an M & E fee on each contribution made during the pay in phase, that the contract holder will in fact lifetime annuitize. This is, however, a foolish fee to pay every two weeks for 30 years! Just contribute to a no-load fund without the insurance fee so you can accumulate a larger nest egg and if you decide to annuitize you can always transfer your money to a no-load annuity enterprise like TIAA upon hanging up your spikes.

 

Peace,

Joel L. Frank

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Hi Norm,

I will not be retiring for another five years or so. You question is a great one and involves the distribution phase of your retirement nestegg. After making contributions and focusing on the accumulation phase of retirement planning with my 403b I am finding that the distribution phase is another piece of the investment world that is very foregn to me. I am learning all over again.

Thanks to the internet, there are loads of models about investing while you are retired. The usual advice is to transfer your 403b to an IRA because you can do more with the money and far lesser costs. If you want to find a low cost way to annuitize check out TIAA CREF or Vanguard about transfering your money to them. They are the only companies that charges rock bottom fees for services.

But before you take any of the ideas here from a discussion forum on the internet, read up on the distribution phase of retirement and pay attention to the costs. Costs matter. Don't be swayed by the notion that 2 or 3% is not a big deal. Look for fees well under 1%, but that requires more knowledge on your part. The choice is yours, leave the matter up to an adviser and pay the big fees or learn to do this yourself, save a bundle of money, but most of all you will have the confidence that you can do this and do it well and actually have fun.

Good luck,

Steve

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Dear Dan:

I am a retired engineer from a scientific organization. Most of my income comes from a systematic withdrawal from a TIAA/CREF 403b plan. My accountant currently puts that income under line 16b on a form 1040. However it is not a pension nor have I annuitized the plan. It would be more like an IRA that I systematically withdrew funds from. Can I list it on line 15b on the 1040 ? This would be an advantage for the enhanced STAR program in New York. Do you have any ideas on this? My accountant didn't know and said if I couldn't find out he would look into it. Thanks for any help you could give me or any referrals you could make.

Yours truly,

Len Chimienti

PS a more general question is "Why does the state of NY ( and maybe others) give such preferential treatment to IRA's and not 403b's or for that matter 401k's ?"

This would save people thousands in home school taxes every year and mean a lot to me

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Len,

 

The 403(b) is not included in the defintion of an IRA (An IRA includes a traditional IRA, Roth IRA, education (Ed) IRA, simplified employee pension (SEP) IRA and a savings incentive match plan for employees (SIMPLE) IRA). This seems rather ridiculous, but it seems that the 403(b) distribution would be claimed on line 16. This seems like something prime for a private letter ruling. In the meantime, why don't you simply roll your 403(b) into a TIAA IRA? You will actually have more investment options and more flexibility as well as the ability to include income on line 15. Can you please explain for everyone the difference in taxation in New York between LIne 15 and Line 16?

 

Warm regard,

 

ScottyD

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With regard to annuitizing a 403b plan someone mentioned that an annuity gaurantees a fixed income for the rest of your life. I don't believe that is true for either TIAA or CREF. It varies every year based on the market value if its CREF or on the interest rates in the case of TIAA's. Also You lose control of the funds. And in addition the motality table is definitely skewed in favor of the insurance company nor is it updated each decade in view of medical improvements. Please correct me if I'm wrong.

Len

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Len,

 

When you annuitize money it is guaranteed for life or for the time period stated, which is typically life. An annuitized payment can fluctuate, this would refer to a variable annuitization. Fixed annuities do not fluctuate, the payment is set for life. TIAA has three types of annuitization - fixed, variable, and graded - the fixed stays the same for life, the graded is geared to rise over time (though has a lower initial payout than the fixed) and the variable will go up or down depending on the market. A lifetime annuitization regardless of the type chosen will pay you for your entire life. As for the mortality tables - this can go both ways, medical improvements tend to extend your life and thus it would be in your favor to use old non-medical adjusted tables - however the fact is that most annuities are favorable toward the issuing company. As for TIAA - I think they are probably better than most, but if you are going to annuitize you should shop it around. You are right about losing control - you "exchange" your money for a lifetime income that you can't outlive. If you live longer than expected you win, if you live shorter than expected you lose - the problem is that nobody knows when they are going to die! It would make things a lot easier if we knew that!!!

 

Hope that answers your questions, if not - keep them coming!!!!

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Annuitization means you agree to sign over the title to your capital to the insurance company in return for a guarantee that you will receive a lifetime income. If we assume a fixed annuity, each monthly payment you will receive is comprised of a partial return of the capital you signed over to the insurer and a stated rate of guaranteed interest. Ex: One is quoted an annuity income rate of .092 at age 62. So if you are so inclined as to annuitize $500,000 you will receive .092 $500,000 divided by 12 as a monthly income for the rest of your life. The monthly amount is $3833.33. Now you need to know: of this amount how much is a return of capital. If the company guarantees 7% interest then the difference of 2.2 percent represents a return of the the $500,000. 2.2 % $500,000 equals $11,000. If we divide $11,000 by 12 we get $916.67. .07 $500,000 equals $35,000 divided by 12 equals $2916.67. So the monthly check of $3833.33 consists of interest of $2916.67 and a return of captal of $916.67.

 

Peace,

Joel

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Guest Erik

Flexibility of IRA's over 403b's is generally exagerated. The only options that IRA's have that 403b's do not are individual securities. A 403B independent custodial account (the one I am familiar with is Resources Trust Company) allows you to own ANY regulated investment ( no-load funds, annuities) , in whatever manner the investor wants.

 

I knew of someone who wanted to buy a motor cycle dealership when he retired. He needed $200K and he needed it in a lump sum. He took out $200K, but $100K of if was coded as loan. He defaulted (intentionally) on the loan the next year. By doing it that way, he was able to lessen the income tax burden by spreading out the income over 2 years. Pretty smart!

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Guest ERIK OOPS

I think this was obvious but the fellow who bought the dealership was taking the money out of his 403b and obviously could not have done it from an IRA

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