Is There a Difference Between a Traditional IRA and a Rollover IRA?

The money you roll over to a rollover IRA can later be rolled over into an employer-sponsored retirement plan, if the plan allows it. This is not true of money in a traditional IRA.

Preparing for Retirement Archives | Page 5 of 29

Q: What is a Rollover IRA?

A rollover IRA is an IRA account created with money that’s being rolled over from a qualified retirement plan. Generally, rollover IRAs happen when someone leaves a job with an employer-sponsored plan, such as a 401(k) or 403(b), and they roll the assets from that plan into a rollover IRA.

Aug

2023

Rollover IRA vs Traditional IRA: What’s the Difference?

By Kate Ashford | Growing Wealth, invest, Investing, Preparing for Retirement | Comments Off

If you’re leaving a job, you may hear the term “rollover IRA.” But exactly what is a rollover IRA? Employees have the option of moving their retirement savings from their employer-sponsored 401(k) plan to an individual retirement account, or IRA, at another financial institution when they leave a job. This IRA, where they transfer their 401(k) savings to, is called a rollover IRA. If the 401(k) plan was not a Roth 401(k), you’ll likely want to open what’s called a traditional IRA.

In this scenario, a rollover IRA is also a traditional IRA. But they aren’t always the same. You can have a traditional IRA that is not a rollover IRA. Read on for the differences worth noting between a rollover IRA and a traditional IRA.

Key Points

• A rollover IRA is an individual retirement account created with funds rolled over from a qualified retirement plan, like a 401(k), usually when someone leaves a job.

• A traditional IRA is funded by direct contributions by the account holder, and contributions are tax-deductible up to a cap and subject to eligibility limitations.

• Directing rollover funds from an employer-sponsored plan to a traditional IRA that holds your direct contributions is called commingling funds, which you may not want to do, especially if you want to transfer the rollover funds to a new employer’s plan.

• Withdrawals from either type of IRA before age 59.5 are subject to both income taxes and an early withdrawal penalty, except for certain eligible expenses.

• The IRS requires owners of both types of IRAs to start making withdrawals at age 73 (for people born in 1951 or later); these withdrawals are also called required minimum distributions (RMDs).

Is There a Difference Between a Rollover IRA and a Traditional IRA?

When it comes to a rollover IRA vs. traditional IRA, the only real difference is that the money in a rollover IRA was rolled over from an employer-sponsored retirement plan. Otherwise, the accounts share the same tax rules on withdrawals, required minimum distributions, and conversions to Roth IRAs.

What Is a Rollover IRA?

A rollover IRA is an individual retirement account created with money that’s being rolled over from a qualified retirement plan. Generally, rollover IRAs happen when someone leaves a job with an employer-sponsored plan, such as a 401(k) or 403(b), and they roll the assets from that plan into a rollover IRA.

In a rollover IRA, like a traditional IRA, your savings grow tax-free until you withdraw the money in retirement. There are several advantages to rolling your employer-sponsored retirement plan into an IRA, vs. into a 401(k) with a new employer:

• IRAs may charge lower fees than 401(k) providers.

• IRAs may offer more investment options than an employer-sponsored retirement account.

• You may be able to consolidate several retirement accounts into one rollover IRA, simplifying management of your investments.

• IRAs offer the ability to withdraw money early for certain eligible expenses, such as purchasing your first home or paying for higher education. In these cases, while you’ll pay income taxes on the money you withdraw, you won’t owe any early withdrawal penalty.

There are also some rollover IRA rules that may feel like disadvantages to putting your money into an IRA instead of leaving it in an employer-sponsored plan:

• While you can borrow money from your 401(k) and pay it back over time, you cannot take a loan from an IRA account.

• Certain investments that were offered in your 401(k) plan may not be available in the IRA account.

• There may be negative tax implications to rolling over company stock.

• An IRA requires that you start taking Required Minimum Distributions (RMDs) from the account at age 73, even if you’re still working, whereas you may be able to delay your RMDs from an employer-sponsored account if you’re still working.

• The money in an employer plan is protected from creditors and judgments, whereas the money in an IRA may not be, depending on your state.

What Is a Traditional IRA?

Now that you know the answer to the question of what is a rollover IRA?, you’ll want to familiarize yourself with a traditional IRA. To understand the difference between a rollover IRA vs. traditional IRA, it helps to know some IRA basics.

From the moment you open a traditional IRA, your contributions to the account are typically tax deductible, so your savings will grow tax-free until you make withdrawals in retirement.

This is advantageous to some retirees: Upon retirement, it’s likely one might be in a lower income tax bracket than when they were employed. Given that, the money they withdraw will be taxed at a lower rate than it would have when they contributed.

A Side-by-Side Comparison of Rollover IRA vs Traditional IRA

	Rollover IRA	Traditional IRA
Source of contributions	Created by “rolling over” money from another account, most typically an employer-sponsored retirement plan, such as 401(k) or 403(b). For the rollover amount, annual contribution limits do not apply.	Created by regular contributions to the account, not in excess of the annual contribution limit, although rolled-over money can also be contributed to a traditional IRA.
Contribution limits	There is no limit on the funds you roll over from another account. If you’re contributing outside of a rollover, the limit is $6,500 for tax year 2023, plus an additional $1,000 if you’re 50 or older.	Up to $6,500 for tax year 2023, plus an additional $1,000 if you’re 50 or older.
Withdrawal rules	Withdrawals before age 59 ½ are subject to both income taxes and an early withdrawal penalty (with certain exceptions , like for higher education expenses or the purchase of a first home).	Withdrawals before age 59 ½ are subject to both income taxes and an early withdrawal penalty (with certain exceptions , like for higher education expenses or the purchase of a first home).
Required minimum distributions (RMDs)	You’re required to withdraw a certain amount of money from this account each year once you reach age 73 (thanks to the SECURE 2.0 Act of 2022).	You’re required to withdraw a certain amount of money from this account each year once you reach age 73 (again, thanks to the SECURE 2.0 Act).
Taxes	Since contributions are from a pre-tax account, all withdrawals from this account in retirement will be taxed at ordinary income rates.	If contributions are tax deductible, all withdrawals from this account in retirement will be taxed at ordinary income rates. (If contributions were non-deductible, you’ll pay taxes on only the earnings in retirement.)
Convertible to a Roth IRA	Yes	Yes

Can You Contribute to a Rollover IRA?

By now you’re probably wondering, can I contribute to a rollover IRA?, and the answer is yes. You can make contributions to a rollover IRA, up to IRA contribution limits. For tax year 2023, individuals can contribute up to $6,500 (with an additional catch-up contribution of $1,000 if you’re 50 or older). If you do add money to your rollover IRA, however, you may not be able to roll the account into another employer’s retirement plan at a later date.

Can You Combine a Traditional IRA With a Rollover IRA?

A rollover IRA is essentially a traditional IRA that was created when money was rolled into it. Hence, you can combine two IRAs by having a direct transfer done from one account to another, or by rolling money from one IRA to the other IRA.

There’s one important aspect of the transfer or rollover process that will help prevent the money from counting as an early withdrawal or distribution to you—and that’s being timely with any transfers. With an indirect rollover, you typically have 60 days to deposit the money from the now-closed fund into the new one.

A few other key points to remember: As mentioned above, if you add non-rollover money to a rollover account, you may lose the ability to roll funds into a future employer’s retirement plan. Also keep in mind that there’s a limit of one rollover between IRAs in any 12-month period. This is strictly an IRA-to-IRA limit and does not apply to rollovers from a retirement plan to an IRA.

How to Open a Traditional or Rollover IRA Account

Opening a traditional IRA and a rollover IRA are identical processes — the only difference is the funding. Open a traditional or rollover IRA by doing the following:

• Decide where to open your IRA. For instance, you can choose an online brokerage firm where you can choose your own investments, or you can select a robo-advisor that will offer automated suggestions based on your answers to a few basic investing questions. (There’s a small fee associated with most robo-advisors.)

• Open an account. From the provider’s website, select the type of IRA you’d like to open — traditional or rollover, in this case — and provide a few pieces of personal information. You’ll likely need to supply your date of birth, Social Security number, and contact and employment information.

• Fund the account. You can fund the account with a direct contribution via check or a transfer from your bank account, transferring money from another IRA, or rolling over the money from an employer-sponsored retirement plan. Contact your company plan administrator for information on how to do the latter.

Is your retirement piggy bank feeling light?

Start saving today with a Roth or Traditional IRA.

The Takeaway

Both a rollover IRA and a traditional IRA allow investors to put money away for retirement in a tax-advantaged way, with very little difference between the two accounts.

One of the primary questions anyone considering a rollover IRA should consider is, will you keep contributing to it? If so, that would prevent you from rolling the rollover IRA back into an employer-sponsored retirement account in the future.

Whether it’s a rollover IRA you’ve created by rolling over an employer-sponsored retirement account or a traditional IRA you’ve opened with regular contributions, either account can play a key role in your retirement game plan.

Ready to invest for your retirement? It’s easy to get started when you open a traditional or Roth IRA with SoFi. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).

Easily manage your retirement savings with a SoFi IRA.

FAQ

Can you take money out of a rollover IRA?

You can, but if you take money from a rollover IRA (or a traditional IRA for that matter) before age 59½, those withdrawals are subject to income tax and an early withdrawal penalty of 10%. There are certain exceptions, however. If you withdraw the money for certain higher education expenses or to buy your first home, for example, the penalty may not apply.

Why would you rollover an IRA?

A rollover is when you move money between two different types of retirement plans. Typically, you might roll over an IRA if you leave a job with an employer-sponsored plan, such as a 401(k) or 403(b). You would roll the assets from that plan into a rollover IRA where your savings grow tax-free until you withdraw the money in retirement. You could instead choose to leave the money in your former employer’s plan, if that’s allowed, or roll it over into your new employer’s 401(k) or 403(b) plan, if they have one. However, a rollover IRA may offer you more investment choices and lower fees and costs than an employer-sponsored plan.

Can I roll over assets into my traditional IRA?

Yes, rolled over money can be contributed to a traditional IRA. It’s also worth noting that you can also combine a traditional IRA and a rollover IRA. You can do this with a direct transfer from one account to another, or by rolling money from one IRA to another, for instance. Just keep in mind that there is a limit of one rollover between IRAs in any 12-month period.

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Aug

2023

401(k) Vesting: What Does Vested Balance Mean?

By Michael Flannelly | Growing Wealth, invest, Investing, Preparing for Retirement | Comments Off

Your vested 401(k) balance is the portion you fully own and can take with you when you leave your employer. This amount includes your employee contributions, which are always 100% vested, any investment earnings, and your employer’s contributions that have passed the required vesting period.

Here’s a deeper look at what being vested means and the effect it can have on your retirement savings.

Key Points

• 401(k) vesting refers to when ownership of an employer’s contributions to a 401(k) account shifts to the employee.

• 401(k) contributions made by employees are always 100% vested; they own them outright.

• Vesting schedules vary, but employees become 100% vested after a specified number of years.

• 401(k) vesting incentivizes employees to stay with their current employer and to contribute to their 401(k).

• Companies may use immediate, cliff, or graded vesting schedules for their 401(k) plans.

What Does Vested Balance Mean?

The vested balance is the amount of money that belongs to you and cannot be taken back by an employer when you leave your job — even if you are fired.

The contributions you personally make to your 401(k) are automatically 100% vested. Vesting of employer contributions typically occurs according to a set timeframe known as a vesting schedule. When employer contributions to a 401(k) become vested, it means that the money is now entirely yours.

Having a fully vested 401(k) means that employer contributions will remain in your account when you leave the company. It also means that you can decide to roll over your balance to a new account, start making withdrawals, or take out a loan against the account, if your plan allows it. However, keeping a vested 401(k) invested and letting it grow over time may be one of the best ways to save for retirement.

💡 Recommended: How Much Should I Contribute to My 401(k)?

How 401(k) Vesting Works

401(k) vesting refers to the process by which employees become entitled to keep the money that an employer may have contributed to their 401(k) account. Vesting schedules can vary, but most 401(k) plans have a vesting schedule that requires employees to stay with the company for a certain number of years before they are fully vested.

For example, an employer may have a vesting schedule requiring employees to stay with the company for five years before they are fully vested in their 401(k) account. If an employee were to leave the company before reaching that milestone, they could forfeit some or all of the employer-contributed money in the 401(k) account. The amount an employee gets to keep is the vested balance. Other qualified defined contribution plans, such as 401(a) or 403(b) plans, may also be subject to vesting schedules.

💡 Recommended: What Happens to Your 401(k) When You Leave a Job?

Importance of 401(k) Vesting

401(k) vesting is important because it determines when an employee can keep the employer’s matching contributions to their retirement account. Vesting schedules can vary, but typically after an employee has been with a company for a certain number of years, they will be 100% vested in the employer’s contributions.

401(k) Vesting Eligibility

401(k) vesting eligibility is the time an employee must work for their employer before they are eligible to receive the employer’s contribution to their 401(k) retirement account. The vesting period varies depending on the employer’s plan.

401(k) Contributions Basics

Before understanding vesting, it’s important to know how 401(k) contributions work. A 401(k) is a tax-advantaged, employer-sponsored retirement plan that allows employees to contribute a portion of their salary each pay period, usually on a pre-tax basis.

As of 2022, employees can contribute up to $20,500 annually in their 401(k) accounts, with an extra $6,500 in catch-up contributions allowed for those age 50 or older. Employees can then invest their contributions, often choosing from a menu of mutual funds, exchanged-traded funds (ETFs) or other investments offered by their employer.

The Internal Revenue Service (IRS) also allows employers to contribute to their employees’ plans. Often these contributions come in the form of an employer 401(k) match. For example, an employer might offer matching contributions of 3% or 6% if an employee chooses to contribute 6% of their salary to the 401(k).

In 2022, the total contributions that an employee and employer can make to a 401(k) cannot exceed 100% of the employee’s salary or $61,000 ($67,500 including catch-up contributions), whichever is less.

Employer contributions are a way for businesses to encourage employees to save for retirement. They’re also an important benefit that job seekers look for when searching for new jobs.

💡 Recommended: How To Make Changes to Your 401(k) Contributions

Benefits of 401(k) Vesting

There are several benefits of 401(k) vesting, including ensuring that employees are more likely to stay with a company for the long term because they know they will eventually vest and be able to keep the money they have contributed to their 401(k). Additionally, it incentivizes employees to contribute to a 401(k) because they know they will eventually be fully vested and be entitled to all the money in their account.

401(k) vesting also gives employees a sense of security, knowing they will not lose the money they have put into their retirement savings if they leave their job.

Drawbacks of 401(k) Vesting

While 401(k) vesting benefits employees, there are also some drawbacks. For one, vesting can incentivize employees to stay with their current employer, even if they want to leave their job. Employees may be staying in a job they’re unhappy with just to wait for their 401(k) to be fully vested.

Also, using a 401(k) for investing can create unwanted tax liability and fees. When you withdraw money from a 401(k) before age 59 ½, you’ll typically have to pay a 10% early withdrawal penalty and taxes. This can eat into the money you were hoping to use for retirement.

Is your retirement piggy bank feeling light?

Start saving today with a Roth or Traditional IRA.

How Do I Know if I Am Fully Vested in my 401(k)?

If you’re unsure whether or when you will be fully vested, you can check their plan’s vesting schedule, usually on your online benefits portal.

Immediate Vesting

Immediate vesting is the simplest form of vesting schedule. Employees own 100% of contributions right away.

Cliff Vesting

Under a cliff vesting schedule, employer contributions are typically fully vested after a certain period of time following a job’s start date, usually three years.

Graded Vesting

Graded vesting is a bit more complicated. A percentage of contributions vest throughout a set period, and employees gain gradual ownership of their funds. Eventually, they will own 100% of the money in their account.

For example, a hypothetical six-year graded vesting schedule might look like this:

Years of Service	Percent Vested
1	0%
2	20%
3	40%
4	60%
5	80%
6	100%

Why Do Employers Use Vesting?What Happens If I Leave My Job Before I’m Fully Vested?

If you leave your job before being fully vested, you forfeit any unvested portion of their 401(k). The amount of money you’d lose depends on your vesting schedule, the amount of the contributions, and their performance. For example, if your employer uses cliff vesting after three years and you leave the company before then, you won’t receive any of the money your employer has contributed to their plan.

If, on the other hand, your employer uses a graded vesting schedule, you will receive any portion of the employer’s contributions that have vested by the time they leave. For example, if you are 20% vested each year over six years and leave the company shortly after year three, you’ll keep 40% of the employer’s contributions.

Other Common Types of Vesting

Aside from 401(k)s, employers may offer other forms of compensation that also follow vesting schedules, such as pensions and stock options. These tend to work slightly differently than vested contributions, but pensions and stock options may vest immediately or by following a cliff or graded vesting schedule.

Stock Option Vesting

Employee stock options give employees the right to buy company stock at a set price at a later date, regardless of the stock’s current value. The idea is that between the time an employee is hired and their stock options vest, the stock price will have risen. The employee can then buy and sell the stock to make a profit.

Pension Vesting

With a pension plan, vesting schedules determine when employees are eligible to receive their full benefits.

How Do I Find Out More About Vesting?

There are a few ways to learn more about vesting and your 401(k) vested balance. This information typically appears in the 401(k) summary plan description or the annual benefits statement.

Generally, a company’s plan administrator or human resources department can also explain the vesting schedule in detail and pinpoint where you are in your vesting schedule. Understanding this information can help you know the actual value of your 401(k) account.

The Takeaway

While any employee contributions to 401(k) plans are immediately fully vested, the same is not always true of employer contributions. The employee may gain access to employer contributions slowly over time or all at once after the company has employed them for several years.

Understanding vesting and your 401(k)’s vesting schedule is one more piece of information that can help you plan for your financial future. A 401(k) and other retirement accounts can be essential components of a retirement savings plan. Knowing when you are fully vested in a 401(k) can help you understand how much money might be available when you retire.

There are many ways to save for retirement, including opening a traditional or Roth IRA. To get started with those, you can open an online retirement account on the SoFi Invest® platform.

Find out more about investing with SoFi today.

FAQ

What does 401(k) vesting mean?

401(k) vesting is when an employee becomes fully entitled to the employer’s matching contributions to the employee’s 401(k) account. Vesting typically occurs over a period of time, such as five years, and is often dependent on the employee remaining employed with the company.

What is the vesting period for a 401(k)?

The vesting period is the amount of time an employee must work for an employer before they are fully vested in the employer’s 401(k) plan. This period is different for each company, but generally, the vesting period is between three and five years.

How does 401(k) vesting work?

Vesting in a 401(k) plan means an employee has the right to keep the employer matching contributions made to their 401(k) account, even if they leave the company. Vesting schedules can vary, but most 401(k) plans have a vesting schedule of three to five years.

Jul

2023

What Is the Average Retirement Age?

By MP Dunleavey | Budgeting & Goals, invest, Preparing for Retirement | Comments Off

The average retirement age in the US is age 65 for men and age 62 for women, but those numbers don’t reveal the extremely wide range of ages at which people can and do retire.

Some people retire in their 50s, some in their 70s; some people find ways to keep pursuing their profession and thus never completely “retire” from the workforce. The age at which someone retires depends on a host of factors, including how much they’ve saved, their overall state of health, and their desire to keep working versus taking on other commitments.

Still, having some idea of the average age of retirement can be helpful as a general benchmark for your own retirement plans.

What Is the Average Age of Retirement in the US?

Overall, the average retirement age in the U.S. is 64.

Age 65 may be what most of us think of as the best age to retire, but not all regions of America are hitting this goal. According to the U.S. Census Bureau’s American Community Survey, the average U.S. retirement age in:

• Hawaii, Massachusetts, and South Dakota is 66.

• Washington, D.C., is 67.

• Residents of Alaska and West Virginia it’s 61.

A lower cost of living may be what’s helping West Virginia residents retire so young. West Virginia was one of the 10 most states in the country with the lowest costs of living, according to a 2023 study by Consumer Affairs.

Recommended: Cost of Living by State

While those previously mentioned states give a look at two ends of the average retirement age spectrum in the United States, many states have an average retirement age that falls closer to what one might expect.

Colorado, Connecticut, Iowa, Kansas, Maryland, Minnesota, Nebraska, New Hampshire, New Jersey, North Dakota, Rhode Island, Texas, Utah, Vermont, and Virginia all have an average retirement age of 65.

Expectations vs Reality

Expectations can lead to disappointment. Any kid with an overly ambitious wishlist for Santa Claus knows that.

Now imagine a person spending most of their adult life expecting to retire at 65 and then realizing their retirement savings just isn’t enough. Ideally, that won’t happen, but it has happened to many.

According to The Employee Benefit Research Institute’s Retirement Confidence Survey Summary Report, the expected average age of retirement in 2023 was 65. However, as noted previously, the Census places the average retirement age in the US at 64. Retiring earlier than planned could lead to not having enough money to retire comfortably.

How to Know When to Retire

Not everyone retires early by choice. More than four in 10 people retired earlier than they expected, mostly because of health problems, disabilities, or changes within their organizations.

It can be difficult for workers to exactly predict at what age they will retire due to circumstances that may be out of their control.

In order to bridge any financial gap caused by not having enough retirement savings, 51% of pre-retirees expect they will earn an income during their retirement by working either full time or part time.

While the survey found that respondents are aware of what they need their retirement savings to look like, there is a gap between their expectations and their actions.

Seventy-nine percent of pre-retirees reported that they agree they should be doing more to prepare for their retirement. However, only 48% reported having a strong retirement plan in place, with 19% of Gen Xers and 31% of millennials admitting to not saving for retirement at all.

A lack of awareness seems to be leading to a lack of preparedness: 25% of pre-retirees surveyed said they aren’t sure how much money they are currently saving for retirement.

💡 Quick Tip: Before opening any investment account, consider what level of risk you are comfortable with. If you’re not sure, start with more conservative investments, and then adjust your portfolio as you learn more.

How Much You Should Have Saved for Retirement?

To retire comfortably, the IRS recommends that individuals have up to 80% of their current annual income saved for each year of retirement. With the average Social Security monthly payment being $1,177, retirees may need to do a decent amount of saving to cover the rest of their future expenses.

This is something to keep in mind when choosing a retirement date.

It’s Never Too Early to Start Saving for Retirement

Retirement can last 30 years or more. As lovely as that sounds, financial security is key to enjoying a relaxing retirement.

Any day is a good day to start saving, but saving for retirement while a person is young could help put them on the path toward a more secure retirement. The more years their savings have to grow, the better.

The Department of Labor (DOL) estimates that for every 10 years a person waits to begin saving for retirement, they will have to save three times as much every month to play catch-up.

💡 Quick Tip: Newbie investors may be tempted to buy into the market based on recent news headlines or other types of hype. That’s rarely a good idea. Making good choices shouldn’t stem from strong emotions, but a solid investment strategy.

3 Steps to Start Preparing for Retirement

It’s not enough to have an idea of the best time to retire. To really reach that goal, it’s important to have a financial plan in place. These steps break down how to prepare for retirement.

Step 1: Estimate how much money you’ll need

One of the first steps a person could take toward their retirement saving journey is to estimate how much money they need to save. There is a retirement savings formula that can help you estimate: Start with your current income, subtract your estimated Social Security benefits, and divide by 0.04. That’s the target number of retirement savings per year you’ll need.

Step 2: Set up retirement saving goals

It might be worth considering what retirement savings options are available, whether that is an employer-sponsored 401(k), an IRA, or a simple savings account. Contributing regularly is key, even if big contributions can’t be made to retirement savings right now.

Making small additions to savings can add up, especially if extra money from finishing car payments, getting a holiday bonus, or earning a raise can be diverted to a retirement savings account.

If an employer offers a 401(k) match, it might be beneficial to take advantage of that feature and contribute as much as the employer is willing to match.

Along with receiving free money from an employer, there are also tax benefits of contributing to a 401(k). Contributions to a 401(k) happen pre-tax — that lowers taxable income, which means paying less in income taxes on each paycheck.

In addition, 401(k) contributions aren’t taxed when deposited, but they are taxed upon withdrawal. Withdrawing money early, before age 59 ½, also adds a 10% penalty.

Step 3: Open a Retirement Account

If access to an employer-sponsored 401(k) plan isn’t available — or even if it is — investors might want to consider putting money into an IRA. For investors who need a little help sticking to a retirement savings plan, they could consider setting up an automatic monthly deposit from a checking or savings account into an IRA.

In 2023, IRAs allow investors to put up to $6,500 a year into their account ($7,500 if they’re older than 50). There are two options for opening an IRA — a traditional IRA or a Roth IRA, both of which have different tax advantages.

Traditional IRA

Any contributions made to a traditional IRA can be either fully or partially tax-deductible, and typically, earnings and gains of an IRA aren’t taxed until distribution.

Roth IRA

For Roth IRAs, earnings are not taxable once distributed if they are “qualified”—which means they meet certain requirements for an untaxed distribution.

Is your retirement piggy bank feeling light?

Start saving today with a Roth or Traditional IRA.

Late to the Retirement Savings Game?

Starting to save for retirement late is better than not starting at all. In fact, the government allows catch-up contributions for those over the age of 50. Catch-up contributions of up to $7,500 in 2023 are allowed on a 401(k), 403(b), SARSEP, or governmental 457(b).

A catch-up contribution is a contribution to a retirement savings account that is made beyond the regular contribution maximum. Catch-up contributions can be made on either a pre-tax or after-tax basis.

As retirement gets closer, future retirees can plan their savings around their estimated Social Security payments. The official Retirement Estimator tool provided by the U.S. Social Security office could help by basing the estimate on an individual’s actual Social Security earnings record.

While this estimate is not a guarantee, it might give a retiree — or anyone planning when to retire — an idea of how much they might consider saving to supplement these earnings.

Social Security benefits can begin at age 62, which is considered the Social Security retirement age minimum. However, full benefits won’t be earned until full retirement age, which is 65 to 67 years old, depending on birth year.

Ready to invest in your goals? It’s easy to get started when you open an investment account with SoFi Invest. You can invest in stocks, exchange-traded funds (ETFs), and more. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).

Invest with as little as $5 with a SoFi Active Investing account.

FAQ

Does the average retirement age matter?

The age at which you retire affects your Social Security benefit. For instance, if you retire at age 62, your benefit will be about 30% lower than if you wait until age 67.

What is the full retirement age for Social Security?

The full age of retirement is 67 for anyone born in 1960 or later. Before that, the full retirement age is 66 for those born from 1943 to 1954. And for those born between 1955 to 1959, the age increases gradually to 67.

How long will my retirement savings last?

One strategy you could use to help determine how long your retirement savings might last is the 4% rule. The idea behind the rule is that you withdraw 4% of your retirement savings during your first year of retirement, then adjust the amount each year after that for inflation. By doing this, ideally, your money could last for about 30 years in retirement. However, your personal circumstances and market fluctuations may affect this number, which means it could vary. It’s best to use the 4% rule only as a general guideline.

SoFi Invest®
The information provided is not meant to provide investment or financial advice. Also, past performance is no guarantee of future results.
Investment decisions should be based on an individual’s specific financial needs, goals, and risk profile. SoFi can’t guarantee future financial performance. Advisory services offered through SoFi Wealth, LLC. SoFi Securities, LLC, member FINRA / SIPC . SoFi Invest refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). Individual customer accounts may be subject to the terms applicable to one or more of the platforms below.
1) Automated Investing—The Automated Investing platform is owned by SoFi Wealth LLC, an SEC registered investment advisor (“Sofi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC, an affiliated SEC registered broker dealer and member FINRA/SIPC, (“Sofi Securities).
2) Active Investing—The Active Investing platform is owned by SoFi Securities LLC. Clearing and custody of all securities are provided by APEX Clearing Corporation.
3) Cryptocurrency is offered by SoFi Digital Assets, LLC, a FinCEN registered Money Service Business.
For additional disclosures related to the SoFi Invest platforms described above, including state licensure of Sofi Digital Assets, LLC, please visit www.sofi.com/legal. Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform. Information related to lending products contained herein should not be construed as an offer or prequalification for any loan product offered by SoFi Bank, N.A.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

External Websites: The information and analysis provided through hyperlinks to third-party websites, while believed to be accurate, cannot be guaranteed by SoFi. Links are provided for informational purposes and should not be viewed as an endorsement.

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Jul

2023

Purchasing Power 101: Examining the Value of the US Dollar

By Colin Dodds | invest, Investing, Preparing for Retirement | Comments Off

Purchasing power is a concept used to express the amount of goods and services a consumer or business can buy with a given unit of currency. In the United States, purchasing power is directly linked to the value of the dollar.

Due to inflation, a dollar today typically won’t go as far as it did last year. And a dollar next year won’t buy the same things that it did this year. This fluctuation in US dollar purchasing power is constant, and goes unnoticed, except in times of extreme inflation.

How Does Purchasing Power Impact Investors?

Once you understand the purchasing power definition, you can start to understand its context for investing. The purchasing power of a dollar affects investors because it makes an impact on virtually every aspect of the broader economy. When the dollar buys less, it changes the shopping decisions of consumers, the hiring practices of employers, the strategic decisions of corporations, and the monetary policy of the Federal Reserve.

One way to track inflation and purchasing power of a dollar is the Consumer Price Index (CPI), a statistic compiled by the US Bureau of Labor Statistics (BLS), which reports the figure every month. The statistic measures the average of prices of a set of goods and services in sectors such as transportation, food, and healthcare. Economists consider it a valuable gauge of the ever-changing cost of living, though it does exclude some important spending categories, including real estate and education.

Investors, executives and policymakers use CPI as a lens through which to scrutinize other economic indicators, including sales numbers, revenues, earnings and so on. It also determines the payments made to the millions of people on Social Security, which gets adjusted for the cost of living every year, and retirees drawing a pension from the military or the Federal Civil Services.

💡 Quick Tip: Look for an online brokerage with low trading commissions as well as no account minimum. Higher fees can cut into investment returns over time.

Why Does the Value of the Dollar Change?

A number of factors drive the value of the US dollar, including large scale factors having to do with economic cycles, government politics and international relations. But the dollar has also experienced inflation for most of the last century.

Inflation rose after World War I amid increased demand for food and other raw materials, which raised prices of most consumer goods up until the Great Depression, in which the country experienced prolonged deflation.

That’s when President Franklin Roosevelt stepped in with a surprising policy decision: He banned private ownership of gold, and required people to sell their holdings to the government. That allowed the Federal Reserve to increase the money supply and stop deflation in its tracks.

Since 1933, through World War II, the Cold War, and a host of changing monetary and economic policies, the US dollar has seen various rates of inflation. It reached its peak during the late 1970s and early 1980s oil and gas shortages exacerbated existing inflation and led to a gas shortage, and an increase in the price of manufacturing and shipping of nearly every single consumer good.

Inflation rose at a more steady pace through the 1990s, falling to historically low levels in the past decade. One reason for the ongoing inflation is that the Federal Reserve continually increased the money supply via economic stimulus. The logic is simple supply and demand: If there are more dollars, then each one is worth less in terms of purchasing power.

In response to the Covid-19 pandemic and the ensuing lockdowns, the Federal Reserve injected trillions into the economy. That, along with other stimulus measures, has had many investors worried about the impact on the purchasing power of the dollar, and what that might mean for the broader economy. In 2022, inflation rose at the fastest pace in 40 years, making prices more expensive and resulting in many consumers having less money to spend.

What Purchasing Power Means for Investors

Generally, investors consider inflation a headwind for the markets, as it drives up the costs of materials and labor, boosts the cost of borrowing and tends to reduce consumer spending. That all tends to translate to lower earnings growth, which can depress stock prices.

But after decades of steady inflation, the markets have priced in a certain amount of shrinkage when it comes to the purchasing power of the dollar. Inflation has a great impact when it occurs suddenly and unexpectedly.

But inflation can have benefits for investors as well. During an economic upswing, inflation is a reliable side effect of prosperity, since economic booms produce higher profits, which drives up the markets. Historically, some experts say that the decades when the S&P 500 Index has delivered the highest returns have been when inflation has been between 2% to 3% annually.

Investors saving for long-term goals, such as retirement, must take declining purchasing power into account when determining how much they’ll need to reach those goals.

💡 Quick Tip: It’s smart to invest in a range of assets so that you’re not overly reliant on any one company or market to do well. For example, by investing in different sectors you can add diversification to your portfolio, which may help mitigate some risk factors over time.

How Does Inflation Influence Stocks?

Inflation impacts different types of stocks differently, and there are several strategies that investors can use to hedge against inflation. During periods of high inflation, growth stocks tend to underperform, simply because so much of their value is tied up in the expectation of future earnings, and inflation diminishes those expectations.

Value stocks, on the other hand, typically boast steadier earnings, and are valued in line with those earnings. As a result, value stocks, as a category, tend to hold up better during periods of high inflation.

Other investments to consider during periods of high inflation include dividend-paying utility stocks and REITs, gold and other commodities. And because periods of high inflation usually brings higher interest rates, it can be a good time to buy bonds, especially government bonds

The Takeaway

The value of the dollar, in terms of what it can buy, changes over time, but inflation isn’t always bad news for investors. Some stocks may perform better than others in an inflationary environment, and higher interest rates may be good news for bond investors and savers.

Invest with as little as $5 with a SoFi Active Investing account.

Photo credit: iStock/pcess609

SoFi Invest®
The information provided is not meant to provide investment or financial advice. Also, past performance is no guarantee of future results.
Investment decisions should be based on an individual’s specific financial needs, goals, and risk profile. SoFi can’t guarantee future financial performance. Advisory services offered through SoFi Wealth, LLC. SoFi Securities, LLC, member FINRA / SIPC . SoFi Invest refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). Individual customer accounts may be subject to the terms applicable to one or more of the platforms below.
1) Automated Investing—The Automated Investing platform is owned by SoFi Wealth LLC, an SEC registered investment advisor (“Sofi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC, an affiliated SEC registered broker dealer and member FINRA/SIPC, (“Sofi Securities).
2) Active Investing—The Active Investing platform is owned by SoFi Securities LLC. Clearing and custody of all securities are provided by APEX Clearing Corporation.
3) Cryptocurrency is offered by SoFi Digital Assets, LLC, a FinCEN registered Money Service Business.
For additional disclosures related to the SoFi Invest platforms described above, including state licensure of Sofi Digital Assets, LLC, please visit www.sofi.com/legal. Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform. Information related to lending products contained herein should not be construed as an offer or prequalification for any loan product offered by SoFi Bank, N.A.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

SOIN0723015

Jul

2023

Guide To Employee Stock Ownership Plans

By Rebecca Lake | Growing Wealth, invest, Investing, Preparing for Retirement, Terminology | Comments Off

You may have come across the term “ESOP” and wondered, what does ESOP stand for? An employee stock ownership plan (ESOP) is a type of defined contribution plan that allows workers to own shares of their company’s stock. While these plans are covered by many of the same rules and regulations that apply to 401(k) plans, an ESOP uses a different approach to help employees fund their retirement.

The National Center for Employee Ownership estimates that there are 6,500 ESOPs covering nearly 14 million workers in the U.S. But what is an employee stock ownership plan exactly? Is an ESOP a defined contribution plan? And how does it work?

If you have access to this type of retirement plan through your company, it’s important to understand the ESOP meaning and where it might fit into your retirement strategy.

What Is an Employee Stock Ownership Plan (ESOP)?

An ESOP as defined by the IRS is “an IRS section 401(a) qualified defined contribution plan that is a stock bonus plan or a stock bonus/money purchase plan.” So what is ESOP in simpler terms? It’s a type of retirement plan that allows you to own shares of your company’s stock.

Though both ESOPs and 401(k)s are qualified retirement plans, the two are different in terms of how they are funded and what you’re investing in. For example, while employee contributions to an ESOP are allowed, they’re not required. Plus, you can have an ESOP and have a 401(k) if your employer offers one. According to the ESOP Association, 93.6% of employers who offer an ESOP also offer a 401(k) plan for workers who are interested in investing for retirement.

💡 Quick Tip: Before opening an investment account, know your investment objectives, time horizon, and risk tolerance. These fundamentals will help keep your strategy on track and with the aim of meeting your goals.

How Employee Stock Ownership Plans Work

In creating an ESOP, the company establishes a trust fund for the purpose of holding new shares of stock or cash to buy existing shares of stock in the company. The company may also borrow money with which to purchase shares. Unlike employee stock options, with an ESOP employees don’t purchase shares themselves.

Shares held in the trust are divided among employee accounts. The percentage of shares held by each employee may be based on their pay or another formula, as decided by the employer. Employees assume ownership of these shares according to a vesting schedule. Once an employee is fully vested, which must happen within three to six years, they own 100% of the shares in their account.

ESOP Distributions and Upfront Costs

When an employee changes jobs, retires, or leaves the company for any other reason, the company has to buy back the shares in their account at fair market value (if a private company) or at the current sales price (if a publicly-traded company). Depending on how the ESOP is structured, the payout may take the form of a lump sum or be spread over several years.

For employees, there are typically no upfront costs for an ESOP.

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Employee Stock Ownership Plan Examples

A number of companies use employee stock ownership plans alongside or in place of 401(k) plans to help employees save for retirement, and there are a variety of employee stock ownership plan examples. Some of the top companies that are at least 50% employee-owned through an ESOP include:

• Publix Super Markets

• Penmac

• Winco Foods

• Amsted Industries

• Brookshire Brothers

• Houchens Industries

• Parsons

• Davey Tree Expert

• W.L. Gore & Associates

• HDR Inc.

Eight of the companies on this list are 100% employee-owned, meaning they offer no other retirement plan option. Publix offers stock purchase plans while Davey Tree Expert has a 401(k) option. Employee stock ownership plans are popular among supermarkets but they’re also used in other industries, including engineering, manufacturing, and construction.

Pros & Cons of ESOP Plans

ESOPs are attractive to employees as part of a benefits package, and can also yield some tax benefits for employers. Whether this type of retirement savings plan is right for you, however, can depend on your investment goals, your long-term career plans, and your needs in terms of how long your savings will last. Here are some of the employee stock ownership plans pros and cons.

Pros of ESOP Plans

With an ESOP, employees get the benefit of:

• Shares of company stock purchased on their behalf, with no out-of-pocket investment

• Fair market value for those shares when they leave the company

• No taxes owed on contributions

• Dividend reinvestment, if that’s offered by the company

An ESOP can be an attractive savings option for employees who may not be able to make a regular payroll deduction to a 401(k) or similar plan. You can still grow wealth for retirement as you’re employed by the company, without having to pay anything from your own pocket.

Cons of ESOP Plans

In terms of downsides, there are a few things that might make employees think twice about using an ESOP for retirement savings. Here are some of the potential drawbacks to consider:

• Distributions can be complicated and may take time to process

• You’ll owe income tax on distributions

• If you change jobs means you’ll only be able to keep the portion of your ESOP that you’re vested in

• ESOPs only hold shares of company stocks so there’s no room for diversification

Pros and Cons of ESOP Plan Side-by-Side Comparison

Pros	Cons
• Shares of company stock purchased on their behalf, with no out-of-pocket investment • Fair market value for those shares when they leave the company • No taxes owed on contributions • Dividend reinvestment, if that’s offered by the company	• Distributions can be complicated and may take time to process • You’ll owe income tax on those distributions • Changing jobs means you’ll only be able to keep the portion of your ESOP that you’re vested in • ESOPs only hold shares of company stocks so there’s no room for diversification

Pros

Cons

• Shares of company stock purchased on their behalf, with no out-of-pocket investment

• Fair market value for those shares when they leave the company

• No taxes owed on contributions

• Dividend reinvestment, if that’s offered by the company

• Distributions can be complicated and may take time to process

• You’ll owe income tax on those distributions

• Changing jobs means you’ll only be able to keep the portion of your ESOP that you’re vested in

• ESOPs only hold shares of company stocks so there’s no room for diversification

By comparison, a 401(k) could offer more flexibility in terms of what you invest in and how you access those funds when changing jobs or retiring. But it’s important to remember that the amount you’re able to walk away with in a 401(k) largely hinges on what you contribute during your working years, whereas an ESOP can be funded without you contributing a single penny.

💡 Quick Tip: Did you know that you must choose the investments in your IRA? Once you open a new IRA and start saving, you get to decide which mutual funds, ETFs, or other investments you want — it’s totally up to you.

ESOP Contribution Limits

The IRS sets contribution limits on other retirement plans, and ESPOs are no different. In particular, there are two limits to pay attention to:

• Limit for determining the lengthening of the five-year distribution period

• Limit for determining the maximum account balance subject to the five-year distribution period

Like other retirement plan limits, the IRS raises ESOP limits regularly through cost of living adjustments. Here’s how the ESOP compares for 2022 and 2023.

ESOP Limits	2022	2023
Limit for determining the lengthening of the five-year distribution period	$245,000	$265,000
Limit for determining the maximum account balance subject to the five-year distribution period	$1,230,000	$1,330,000

Cashing Out of an ESOP

In most cases, you can cash out of an ESOP only if you retire, leave the company, lose your job, become disabled, or pass away.

Check the specific rules for your plan to find out how the cashing-out process works.

Can You Roll ESOPs Into Other Retirement Plans?

You can roll an ESOP into other retirement plans such as IRAs. However, there are possible tax implications, so you’ll want to plan your rollover carefully.

ESOPs are tax-deferred plans. As long as you roll them over into another tax-deferred plan such as a traditional IRA, within 60 days, you generally won’t have to pay taxes.

However, a Roth IRA is not tax-deferred. In that case, if you roll over some or all of your ESOP into a Roth IRA, you will owe taxes on the amount your shares are worth.

Because rolling over an ESOP can be a complicated process and could involve tax implications, you may want to consult with a financial professional about the best way to do it for your particular situation.

ESOPs vs 401(k) Plans

Although ESOPs and 401(k)s are both retirement plans, the funding and distribution is different for each of them. Both plans have advantages and disadvantages. Here’s a side-by-side comparison of their pros and cons.

	ESOP	401(k)
Pros	• Money is invested by the company, typically, and requires no contributions from employees. • Employees get fair market value for shares when they leave the company. • Company may offer dividend reinvestment.	• Many employers offer matching funds. • Choice of options to invest in. • Generally easy to get distributions when an employees leave the company.
Cons	• ESOPs are invested in company stock only. • Value of shares may fall or rise based on the performance of the company. • Distribution may be complicated and take time.	• Some employees may not be able to afford to contribute to the plan. • Employees must typically invest a certain amount to qualify for the employer match. • Employees are responsible for researching and choosing their investments.

ESOP

401(k)

Pros

• Money is invested by the company, typically, and requires no contributions from employees.

• Employees get fair market value for shares when they leave the company.

• Company may offer dividend reinvestment.

• Many employers offer matching funds.

• Choice of options to invest in.

• Generally easy to get distributions when an employees leave the company.

Cons

• ESOPs are invested in company stock only.

• Value of shares may fall or rise based on the performance of the company.

• Distribution may be complicated and take time.

• Some employees may not be able to afford to contribute to the plan.

• Employees must typically invest a certain amount to qualify for the employer match.

• Employees are responsible for researching and choosing their investments.

3 Other Forms of Employee Ownership

An ESOP is just one kind of employee ownership plan. These are some other examples of plans an employer might offer.

Stock options

Stock options allow employees to purchase shares of company stock at a certain price for a specific period of time.

Direct stock purchase plan

With these plans, employees can use their after-tax money to buy shares of the company’s stock. Some direct stock purchase plans may offer the stock at discounted prices.

Restricted stock

In the case of restricted stock, shares of stock may be awarded to employees who meet certain performance goals or metrics.

Investing for Retirement With SoFi

There are different things to consider when starting a retirement fund but it’s important to remember that time is on your side. No matter what type of plan you choose, the sooner you begin setting money aside for retirement, the more room it may have to grow.

Ready to invest for your retirement? It’s easy to get started when you open a traditional or Roth IRA with SoFi. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).

Easily manage your retirement savings with a SoFi IRA.

FAQ

Can employees contribute to an ESOP?

In most cases, the employer makes contributions to an ESOP on behalf of employees. Rarely, employers may allow for employee contributions to employee stock ownership plans.

What is the maximum contribution to an ESOP?

The maximum account balance allowed in an employee stock ownership plan is determined by the IRS. For 2023, this limit is $1,330,000 though amounts are increased periodically through cost of living adjustments.

What does ESOP stand for?

ESOP stands for employee stock ownership plan. This is a type of qualified defined contribution plan which allows employees to own shares of their company’s stock.

How does ESOP payout work?

When an employee changes jobs, retires, or leaves the company for any other reason, the company has to buy back the shares in their account at fair market value or at the current sales price, depending if the company is private or publicly-traded. The payout to the employee may take the form of a lump sum or be spread over several years. Check with your ESOP plan for specific information about the payout rules.

Is an ESOP better than a 401(k)?

An ESOP and a 401(k) are both retirement plans, and they each have pros and cons. For instance, the employer generally funds an ESOP while an employee contributes to a 401(k) and the employer may match a portion of those contributions. A 401(k) allows for more investment options, while an ESOP consists of shares of company stock.

It’s possible to have both an ESOP and a 401(k) if your employer gives you that option. Currently, almost 94% of companies that offer ESOPs also offer a 401(k), according to the ESOP Association.

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SoFi Invest®
The information provided is not meant to provide investment or financial advice. Also, past performance is no guarantee of future results.
Investment decisions should be based on an individual’s specific financial needs, goals, and risk profile. SoFi can’t guarantee future financial performance. Advisory services offered through SoFi Wealth, LLC. SoFi Securities, LLC, member FINRA / SIPC . SoFi Invest refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). Individual customer accounts may be subject to the terms applicable to one or more of the platforms below.
1) Automated Investing—The Automated Investing platform is owned by SoFi Wealth LLC, an SEC registered investment advisor (“Sofi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC, an affiliated SEC registered broker dealer and member FINRA/SIPC, (“Sofi Securities).
2) Active Investing—The Active Investing platform is owned by SoFi Securities LLC. Clearing and custody of all securities are provided by APEX Clearing Corporation.
3) Cryptocurrency is offered by SoFi Digital Assets, LLC, a FinCEN registered Money Service Business.
For additional disclosures related to the SoFi Invest platforms described above, including state licensure of Sofi Digital Assets, LLC, please visit www.sofi.com/legal. Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform. Information related to lending products contained herein should not be construed as an offer or prequalification for any loan product offered by SoFi Bank, N.A.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

SOIN0523010