I Have $620k in My 401(k). What Should I Do With It When I Retire?

First, you can simply leave your 401(k) as it is. In this option your portfolio will continue to be managed as it has been based on the terms of your employer’s program. Assuming you are over age 59.5, you can begin to withdraw money from the portfolio at your discretion.

Once your portfolio dips below $7,000 you will have to withdraw all of the assets, since this is the minimum for a separated employee’s account. You also cannot make new contributions to the 401(k) even if you earn new income. Otherwise, your 401(k) will carry on as normal.

Second, you can move your 401(k) assets to an IRA. This is a common choice, particularly for retirees, since it allows you to manage your own assets without needing to maintain a lifetime connection to your previous employer. You can also contribute to this IRA with any future earned income, which gives you a little more flexibility.

You can roll your 401(k) over to a traditional IRA or a Roth IRA. If you roll your money to a Roth IRA, you will owe conversion taxes in the year that you make the conversion.

Finally, you can convert your 401(k) to an annuity. This is similar to making an IRA rollover in that you will withdraw the assets from your 401(k) and put them in an account of your choosing. In this case, you will cash out the portfolio and use the proceeds to buy an annuity contract.

Depending on the nature of your transaction, you may be able to buy a qualified annuity. This means that you will not pay taxes on the money that you take from your 401(k) to buy the annuity, but you will pay income taxes on the annuity’s payments in retirement. Like a Roth IRA rollover, for someone approaching retirement this long-tail of smaller income tax payments is typically cheaper than paying a massive tax bill all at once.

A financial advisor can help you weigh the pros and cons of each option, as well as execute the steps.

However you choose to manage your 401(k) post-retirement, the next question is what kind of income it can generate for you. This will all come down to how you choose to manage your investments. What kind of assets will you hold? What kind of returns will you seek? And what kind of risks can you manage?

In this context, “risk management” is a better term than “risk tolerance.” The question is not how much you are willing to roll the dice, because in retirement you cannot just accept the possibility that one year you might not have enough money to pay your bills. Instead, the issue is what kind of risks you can manage. How much extra cash can you set aside for down years? How much can you cut your spending at need? Basically, what is your ability to accommodate or adapt to losses if it comes to that?

And there is a wide, wide range of options here.

You might, for example, accept high risks to seek strong returns, putting all your money in an S&P 500 index fund. The market returns an approximate average of 11% per year, so a $620,000 401(k) might return about $68,000 in a single year. But it’s also very volatile. This portfolio might return $120,000 in a great year, while actively losing $50,000 the next one.

You might mitigate that risk by going in the entire opposite direction, putting all your money in bonds and collecting just the interest payments. Corporate bonds pay an average 5% per year, so a $620,000 401(k) might pay just $31,000 per year. But that would be fairly stable, with few risks to disrupt that steady flow of income.

Look at the growth you want and consider your plan for managing risks, then set your asset allocation accordingly. A financial advisor can help you make calculations based on various scenarios to determine the best course of action for your needs.

When it comes to planning for your income, first look at your budget. A rule of thumb in retirement is that you will probably need around 80% of the income that you needed during your working life. Use this as a place to start, then look at your actual spending. What do you need to pay your bills each month? What do you need to pay for likely future expenses like increased medical expenses? And what do you need to maintain your lifestyle?

In other words, make a budget.

Then look at longevity. How long do you expect to be retired? If you are retiring younger, you will need more money to pay for a longer retirement. And remember to plan conservatively. The median lifespan for a retiree is into their late-80s, but medians (by definition) measure the middle. About half of us will outlive the median, and that doesn’t even account for any advances or increased lifespans in the coming decades. For example, if you are currently 67, it’s wise to plan for at least 25 to 30 years of retirement.

Look at the averages, then plan to outlive them.

Finally, prepare for inflation. Even at the Federal Reserve’s benchmark 2% rate of inflation, prices will double roughly every 35 years. This means that, unless you have some mechanism for growth, your portfolio will erode steadily year over year. Prepare for this, typically by making sure your portfolio holds some growth assets, otherwise you’ll be 85 and complaining about how expensive even a cup of coffee has gotten these days.

A good way to do this is to build a retirement and withdrawal plan that anticipates increasing your withdrawals by 2% each year.

Finally remember taxes.

A 401(k) will raise two main tax issues. First, a pre-tax portfolio like a 401(k) is taxed as ordinary income, instead of at the special, lower rate reserved for capital gains. This means that your spendable budget is less than your on-paper withdrawals. For example, say you took just the interest on a bond portfolio. You would collect $31,000 in payments each year, on which you might pay approximately $1,838 in federal income taxes, leaving you with $29,162 to spend.

You should also be aware of RMDs. We noted required minimum distributions above. Once you turn 73, the IRS will require you to take a minimum withdrawal from all pre-tax retirement accounts each year. This is a particular issue for households that want to leave certain portfolios in place for maximum compounding gains. Remember that you must begin taking at least some money from your 401(k) each year starting at age 73, and plan your investments accordingly.

Talk to a financial advisor to build a comprehensive plan at the intersection of tax code and your retirement goals.

When you are planning how to manage your retirement accounts, you should make sure to do so with a whole-picture perspective. Remember to plan for all of your portfolios and sources of income, and remember to plan for all of your taxes and potential needs. Your 401(k) doesn’t exist in a vacuum, after all.

• Managing your 401(k) isn’t easy. This is a lifelong project that, hopefully, involves a lot of money and many different investments. But that’s okay, the important things aren’t supposed to come easy. Here are 10 tips to help make your 401(k) much easier to handle. 

• A financial advisor can help you build a comprehensive retirement plan. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.

• Keep an emergency fund on hand in case you run into unexpected expenses. An emergency fund should be liquid — in an account that isn’t at risk of significant fluctuation like the stock market. The tradeoff is that the value of liquid cash can be eroded by inflation. But a high-interest account allows you to earn compound interest. Compare savings accounts from these banks.

• Are you a financial advisor looking to grow your business? SmartAsset AMP helps advisors connect with leads and offers marketing automation solutions so you can spend more time making conversions. Learn more about SmartAsset AMP.

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