In a recent television commercial, a man is shown enjoying his office retirement party at the end of which he is asked to say a few words to his friends and soon-to-be-former co­workers. “You know what I’m gonna do now?” he gleefully asks. “I’m gonna cash in my 401(k), and my wife and I are taking a trip around the world—first class all the way!” The cheers he is expecting from the crowd are not forthcoming. Instead, his announcement is met with silence and he watches, dumbfounded, while co-workers stare at him shak­ing their heads in a manner that clearly suggests that his plan may not be well thought out—at the least. Over the next few years, approximately seventy-seven million baby boomers will be faced with deciding what to do with their 401(k) and other plans savings. Loosely translated, that means over $3 trillion moving through the various finan­cial systems! Each company has different rules regarding their plans and it is best to consult with the administrator about the options available to you. Perhaps you love the plan and would like to keep your assets with the company. Will they let you? The company may have an option to receive lifetime pension income that may appeal to you. Will this income rise with inflation? Will your spouse receive income and at the same rate? Although the options your company may offer may be appealing, the fact that the choices available may be limited beg you to check outside investment options. As a rule, your best bet at retirement is a direct rollover of your company-sponsored plan assets into a traditional IRA. A direct rollover, i.e., transferring the balance, untouched and in one lump sum, to an IRA allows you to avoid current taxes and penalties. It also gives you access to more investment choices because IRAs allow you to buy individual investments such as CDs, bonds and stocks as well as mutual funds that may not available in standard company retirement plans. The additional investment choices may help you to increase your income and reduce risk. There are some pitfalls and potential problems in the rollover process. Yet a surprisingly small percentage of peo­ple, particularly those in higher income brackets, plan to engage the services of a financial planner when they get ready to rollover their plans assets at retirement. If you are among those who will not be consulting a financial planner to guide you in the rollover process, here are some tips on how to avoid costly mistakes. (Warning: “My dog ate the paperwork” is generally not accepted by the IRS as an excuse.)

Do your homework.

Tax rules governing IRAs, Roth IRAs, etc., are complicated and vary depending on what type of account you have or wish to open. These rules do change so don’t assume you know. · Know the applicable deadlines. You have sixty days to move (rollover) funds from one tax-deferred account to another. Many people miss this deadline. Perhaps they sent the paperwork to the bank with instructions to “put this money into an IRA” but failed to follow up to be sure the rollover was actually completed. Per­haps you made a clerical error in filling out the nec­essary forms, and no one catches the error until after the sixty-day deadline has passed.·

Make copies of all paperwork, checks, and applica­tions. Then send the original documents registered or overnight mail so that if there is a dispute, you will have records that the deposit and information was sent to the receiving firm in a timely manner.·

Make sure the company you are rolling your assets to is one you are familiar with and plan to invest through. It makes for a smoother transition.

To roll or not to roll must be well thought out prior to execution. Mistakes can be costly and may seriously alter your retirement expectations. Be careful and get help if you need it.

Suppose your 401(k) retirement plan includes publicly traded company stock? You can save a great deal by paying taxes on that stock now rather than later when you take a dis­tribution. A little known IRS regulation called net unrealized appreciation (NUA) allows you to pull out some (or all) of the shares in the company and separately roll the rest of your account balance over into an IRA. Any increase in the price of the stock (after you have withdrawn your shares and held them for one year) is subject only to long-term capital gains tax, which can be considerably less than ordinary income tax.Put another way, you pay ordinary income taxes on reg­ular IRA distributions assuming you have not yet paid taxes on contributions to the account. Normally, company stock rolled into an IRA is treated the same way. However, if instead of rolling company stock into an IRA, you withdraw the company stock from your 401(k) and transfer it to a tax­able brokerage account; you bypass ordinary income taxes on the NUA of the stock. What exactly is NUA? It is the differ­ence between the value of the company stock at the time it was purchased and put into your 401(k) and the value at the time of distribution, i.e., when it is moved out of your 401(k). Thus, your income tax, in this case, is based on the value of the stock when you first acquired it—not on the current (and presumably much higher) value.Another advantage of the NUA tax break with regard to company stock rollover is that there is no required minimum distribution (RMD) on those assets since they are no longer a part of an IRA.For example, if you own one thousand shares of a com­pany stock with a current value of $100,000 with a cost basis of $25,000, you would have an NUA of $75,000. Should you liquidate the stock and withdraw it, or roll it to an IRA for eventual withdrawal, the entire amount would be subject to ordinary income tax.

Assuming you are in the 30 percent tax bracket, you would owe $30,000 on the $100,000 distribution if taken in a single year.Should you choose to adopt the NUA strategy, however, your tax bill should be much less. If you were to roll the stock, in its entirety, out of your retirement plan all at once into a personal non-IRA account, your current tax liability only lies with the amount you originally invested, i.e., the $25,000. Again, if you are in the 30 percent tax bracket, the current tax due would be only $7,500 ($25,000 x .30). The remaining portion, the $75,000 net unrealized appreciation, is not taxed until you liquidate it. If you hold it for more than one year, it will be taxed at the long-term capital gains rate of 15 percent. Assuming it was sold at current market value, an additional tax of $11,250 ($75,000 x 15 percent) will be due.The tax on the $25,000 of $7,500 together with $11,250 tax equals $19,750 in total taxes. Thus, you save $10,250 by simply doing your paperwork. Not a bad way to start your retirement, don’t you think?Yes, this is a complicated concept and process. By learn­ing about it (and getting help from a financial advisor or accountant), you are likely to save a tremendous amount.

The fact is, in the circumstances described, you cannot afford not to take advantage of the NUA.Caveats: This is a one-time opportunity only. So before proceeding, be certain that the parties involved understand what you are doing. If, for example, your company handles the transfer incorrectly, that could spell trouble. Also, be sure to complete both transactions—withdrawing the stock and rollover to an IRA—in the same year. Otherwise, the IRS could deny you the tax break.Do not—I repeat, DO NOT—attempt to handle this type of transaction on your own. As a rule of thumb, all company stock and option transactions should be handled through a financial advisor. The dollar amounts associated with these transactions are typically large, which means that any mis­takes can be quite costly. Please consult your accountant, HR person, or financial professional for some guidance before you do anything.

By Jaime Levy Pessin
A DOW JONES NEWSWIRES COLUMN

NEW YORK — State regulators are trying to give seniors more options to get out of long-term annuities that may have been improperly sold to them.

The state of Florida has legislation pending that would give older investors four extra days to reconsider any annuity purchases. In Minnesota, regulators have incorporated refunds into settlements with deferred annuity providers, allowing investors over age 65 who bought annuities from those firms after 2001 to rescind their purchases without penalty. A recent California settlement requires a long-term annuity provider to, in the future, call some seniors who buy the products and make sure they understand exactly what they’ve purchased.

“It’s important that seniors have the opportunity to really understand these products before they buy them,” said Karen Tyler, president of the North American Securities Administrators Associationand North Dakota’s securities commissioner. “Provisions that are geared toward a period of time after the sale offers the investor another level of protection.”

State regulators have long been concerned about the sale of long-term annuities to seniors, because the investments can lock up their money for years and seniors may need access to their money immediately. The latest moves come at a time when, at the federal level, proposals to simplify regulation might reduce the role of state regulators in investor protection. The states’ lawsuits were filed before the recent federal proposal was unveiled.

Michael DeGeorge, general counsel at NAVA, an annuity industry trade group, said the organization doesn’t condone misleading sales practices, but worries that regulators might paint annuities with too broad a brush.

“We think it’s unfair to blame the product,” he said. “Annuity products can be beneficial for a number of older people.”

The state-level push to give investors a way out of long-term annuity purchases comes amidst a keen regulatory concern that financial-services professionals are taking advantage of senior citizens. Especially as Baby Boomers start to retire in droves, the amount of money people have available to invest is staggering: A fund-industry trade group estimates that retirement assets amounted to $17.4 trillion by the end of 2007’s second quarter.

Worries About Fraud

Regulators worry that the huge assets are spawning a wave of fraud against people who might not have the financial know-how to protect themselves.

They have grown increasingly concerned about long-term annuities because people must hold onto them for years in order to avoid paying surrender charges. That doesn’t make sense for people who have shorter life expectancies or who may have an immediate need for cash with no way to earn it.

Also, long-term annuities tend to pay high commissions to the financial advisors who sell them, giving financial advisors a big incentive to push the products.

In Florida, a bill pending in the state House of Representatives would extend the state’s “free-look” period from 10 to 14 days for people over age 65 who buy any kind of annuity, giving seniors extra time to rethink their purchases, according to Florida Rep. Clay Ford, who introduced the bill. Originally the bill would have extended the free-look period to a year, but Ford said the industry protested and the two sides compromised at the 14-day mark.

“Part of the hazard is if they have their savings tied up there, they don’t have it in cash,” Ford said. “It’s a dangerous thing if they don’t understand what they’re doing.”

Minnesota’s attorney general has been aggressively pursuing lawsuits against deferred-annuity providers, alleging unsuitable sales practices. As part of settlements with Allianz Life Insurance Co., a unit of Allianz SE (AZ), and American Equity Investment Life Insurance Co., people ages 65 and older who bought annuities from those companies after Jan. 1, 2001 can submit claims for full refunds without penalties.

Regulators will consider whether the products were unsuitable or sold improperly, and the attorney general’s office has said refund requests will be “‘liberally construed” in favor of the consumer.”

An Allianz spokeswoman said the company has been proactive in establishing a nationwide suitability program that “exceeds market standards.”

“We want to ensure that consumers purchase only those products that meet their needs and support their financial objectives,” the spokeswoman said.

Wendy Carlson, general counsel and chief financial officer at American Equity, said her firm was committed to ensuring that customers understand the products they’re buying.

“If people aren’t interested in a long-term savings product.. it’s not the right product,” she said.

Two Other Pending Suits

Two other similar lawsuits are pending, said Minnesota Solicitor General Al Gilbert.

Gilbert said that seniors are “putting substantial amounts or all of their money into these,” but that they “don’t have the same flexibility in terms of source of income.” This can be especially problematic for a population that may need access to their money to pay for things like medical expenses or long-term care.

In California, the state’s insurance commissioner recently came to a similar settlement with Allianz. As part of that settlement, Allianz will in the future have to contact people who are either 75 and older or who reside in assisted-living facilities, after they’ve bought a long-term annuity. In phone conversations, the firm must confirm those buyers’ “thorough understanding” of what they purchased.

The Allianz spokeswoman said it had started a similar pilot program in December 2006 with one pool of agents. The program’s official launch, which opened the program to all sales involving customers over age 75, began last month.

It’s not just state regulators getting in on the refund act. Earlier this year, the Financial Industry Regulatory Authority fined a Chicago company in part for making unsuitable sales of variable annuities. As part of the penalty, the 23 affected customers were allowed to sell their annuities back to the company without penalty. The company had to pay any surrender charges.

Finra also recently enacted a rule that will require broker-dealers to ensure the purchase or exchange of a deferred variable annuity is suitable for a specific customer.

The AARP is supportive of efforts to protect seniors from unsuitable annuity sales; the advocacy group for people over 50 years old is supporting the Florida legislation, which includes other protections aside from the refunds, said Lori Parham, the state’s AARP director.

“There’s a real sense that folks are being taken advantage of, and it’s time something be done,” she said.

(Jaime Levy Pessin covers compliance and regulatory issues affecting financial advisors.)