Every time you change jobs, you need to decide what to do with the savings you have accumulated in your 401(k) plan. Separating from service can be an opportunity to seek out a retirement account with better investments and lower costs. However, you also need to watch out for fees and tax penalties when moving your money. Here’s what most people do with their old 401(k) plan, and what to watch out for when choosing each option.
[Read: How to Avoid 401(k) Fees and Penalties.]
Leave it in the 401(k) plan. In most cases, there’s no reason to rush to pull your money out of the 401(k) plan at your previous job. You can leave your account balance in your former employer’s 401(k) plan if the balance exceeds $5,000. Keeping the money in an existing 401(k) plan is the most popular and often the default option, with 41 percent of workers doing this, according to a 2016 Employee Benefit Research Institute and Greenwald and Associates survey.
Maintaining your 401(k) balance prevents any tax implications and allows the money to continue to grow for retirement. And if you had an especially good 401(k) plan that negotiated low cost funds for members, keeping an old 401(k) can be beneficial. However, monitoring your investments can get confusing if you have many different 401(k) accounts at various companies. If your 401(k) balance is between $1,000 and $5,000, your former employer could automatically transfer the account balance to an IRA of the plan’s choosing, unless you make another selection. And your 401(k) could be automatically cashed out if the balance is less than $1,000, which could result in taxes and penalties.
Roll over to an IRA. Over a third (38 percent) of workers say they roll their 401(k) balance over to an IRA when they change jobs, according to the EBRI survey. Shifting your 401(k) account balance directly to an IRA via a trustee-to-trustee transfer will retain the tax-deferred status of your money. It can also help you to consolidate your retirement savings in a single place each time you change jobs, which makes it easier to monitor your investment allocation.
IRAs have a much wider selection of investment options than 401(k) plans, which gives you an opportunity to shop around for lower cost funds than you had in your 401(k) plan. Most workers who roll their money over to an IRA (69 percent) select a different company than the one that provided their workplace retirement account, EBRI found. About half of former employees (51 percent) select the same types of investments in the IRA as they had in a 401(k) plan, but some workers shift to funds with more (21 percent) or less (23 percent) risk.
[See: 10 Ways to Make Your 401(k) Balance Grow Faster.]
Put it into your personal savings or investments. Some people withdraw the money from the retirement account, but don’t immediately spend it. Over a quarter (28 percent) of workers shift their money into personal savings or investment accounts, EBRI found. But watch out for taxes and penalties if you choose this route. If you move the money outside of a retirement account you will owe income tax on the amount withdrawn. And if you are under age 55 when you leave the job, you might also have to pay a 10 percent early withdrawal penalty on a 401(k) distribution.
Spend it or pay off debt. A quarter of workers report spending the balance from their former 401(k) plan, sometimes to pay down debt, EBRI found. This move will trigger income tax and potentially the early withdrawal penalty. However, if you have debt with a higher interest rate than the taxes and fees you will owe on the distribution, a 401(k) withdrawal could help you eliminate the debt and get on firmer financial footing going forward.
Deposit it in a new 401(k) plan. If your employer allows it, you may be able to move your money into your new 401(k) plan. A quarter of workers say they have rolled money from one 401(k) plan to another when they change jobs, EBRI found. This can make it easy to keep track of your investments in one place. However, it’s worth comparing the investment options and expenses in the new 401(k) plan to a few IRAs to see where you can select the lowest cost investments that meet your needs.
[Quiz: Are You on Track to Max Out Your 401(k)?]
Get some advice. Changing jobs is a busy period of life, and your 401(k) plan isn’t always top of mind. But there’s typically no reason you need to immediately move your money. Most workers (44 percent) say they sought advice about what to do with the money accumulated in a former employer’s 401(k) plan, typically from a professional advisor, according to the EBRI survey. Take some time to compare all your options, and remember to factor in taxes and penalties before making any moves.
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How Job Changers Manage Their 401(k) Plans originally appeared on usnews.com
