Whether you are pursuing a new career opportunity, retiring, or have been fired or laid off, leaving a job is a major life change. If you had a 401(k) with your former employer, one of the many decisions you will have to make as you navigate the transition is what to do with the balance in your account. Generally, you will need to decide within 60 days or the funds will be automatically distributed directly to you or to one of your other retirement accounts. While each option carries pros and cons, the right choice for transitioning your 401(k) will depend on your unique circumstances, financial needs and goals.
Here are four standard options you may face when determining what to do with your employer-sponsored 401(k) upon retirement or a job change:
- Leave the money in your former employer’s 401(k) plan. If you have a certain amount of money in your 401(k)—typically $5,000 or more—your former employer may allow you to keep your account in their plan. In addition to convenience, another advantage of this choice is that you are already familiar with the plan’s investment options and fees. However, it’s important to check with your former employer to see if any new fees or restrictions will apply—some companies charge additional maintenance fees for former employees, limit their investment choices, or prohibit them from taking distributions until retirement age.
- If changing jobs, move the money to your new employer’s plan. Many employers allow you to simply rollover your current account into their 401(k) or other retirement plan. This is a straightforward option that allows your retirement savings to continue growing while making it easier to keep track of your accounts. However, be sure to check the investment options and services offered by your new employer’s 401(k) plan to ensure that they will suit your needs.
- Rollover the account into a traditional or Roth IRA. Since IRAs tend to have many more investment options than 401(k)s, moving your money to an IRA offers you maximum flexibility and control. This is also a great option if you expect that there will be more job changes in your future, as a rollover IRA creates a single, consolidated account in which to deposit funds from your 401(k)s and other retirement plans. There are no taxes or penalties associated with a direct 401(k)-to-IRA rollover. One potential downside to consider, however, is that without the automatic contributions that you typically make to an employer-sponsored plan, you could risk losing momentum as you grow your retirement savings. In addition, it may be best to leave the money in your 401(k) if you are planning to take withdrawals before age 59 1/2, as IRA withdrawals before this age carry a 10 percent penalty and income tax on the distribution. On the other hand, if you are 55 or older when you leave your job and keep your 401(k) with your former employer, you’ll be able to take penalty-free withdrawals between ages 55 and 59 1/2.
- Take a lump-sum distribution. Cashing out your 401(k) by taking a lump-sum distribution is the riskiest option for most people. You will need to pay income taxes on the amount, as well as a 10 percent penalty if you are under 59 1/2—which will put a significant dent in your retirement nest egg and end the tax-free growth of your savings. Therefore, this should be considered a last resort.
Another consideration during a job transition is whether you have ever taken a loan from your 401(k). If so, you generally must repay it when you leave the company—or you will be taxed on the loan amount and required to pay a 10 percent penalty if you are under 59 1/2. However, there may be exceptions to this if you were laid off.
As you navigate a job change or the transition to retirement, determining the best options for your 401(k) can be daunting. Our team of financial experts is here to help—contact us today to schedule a consultation!
-Stephanie Vance, J.D.
We are Arbor Wealth Management, a Phoenix-based firm that offers comprehensive financial planning services. We’re partners in your financial future. Like a conductor coordinating a beautiful symphony, we’re intimately involved in your financial future. We take the time to know how each instrument in your personal orchestra is performing, keeping all aspects of your plan in tune. We accomplish this by making sure your finances remain pliable, whether you are in an accumulation or distribution stage in life.