Most of us have a few employers during our career; that means a few 401ks. When you leave a job, there are choices what to do with the retirement money you have saved.
The important things to consider are: maintaining control, taxes, costs and the implications of an outstanding 401k loan.
Control Your Money
The first and most important thing to do with your money is to maintain control over the plan and know where it is. “Losing” a 401k plan is more common than you’d think. A young man called me, he knows he has an old 401k plan from a job he had 7 years ago. In the course of those 7 years, he moved and didn’t update his address with the plan- no more statements. The company he worked for was sold a few years after he left, no one to call. This man has money in an account and doesn’t know where it is.
Another common occurrence, is sitting in cash. Money in cash is not invested, it is not growing or gaining anything. Employers will switch record keepers (the company where the statement comes from) sometimes. That means your investments will move from one company to another, but the new company does not know your risk tolerance or objectives- so the money may “sit in cash”. Letting money sit in cash is expensive in the long run, because inflation is eating away at the value and money invested well should double every 7-10 years and letting the money sit wastes that opportunity.
Knowing the Price and What You’re Getting for Fees
The next thing to consider what you are paying for with fees and expenses. 401k plans are not free; there are people working that are being paid. The funds all have expenses to pay their managers. The record keeper may charge an annual or asset based fee to pay for the website, statements and customer service. There is a third party administrator that keeps the entire plan compliant with laws. The advisor that comes and presents is paid too. That being said, 401k plans are typically not expensive plans because there is a lot of pressure to keep fees low.
The thing to consider is what you are getting and if you need more than what you are getting. Are you using the website full of tools? Are you getting access to funds you like? Do you need advice and guidance and are you getting it? The plan may be high or lower in cost than using an advisor, and switching to an advisor may be better for you even if the cost is higher.
Take it and spend it– this is an expensive option, you will pay income taxes and a 10% penalty if you are younger than 59.5. Spending your retirement money is probably detrimental to your future self, but an option.
Leave it in the Old Plan– A plan can require moving your 401k money after termination. If you get a letter telling you to move your money, do it! Getting a check for the balance in the 401k is considered a distribution, and taxes are withheld. You can still roll the money but the situation becomes more difficult and there are potential tax implications.
The upside of leaving money with the old employer is you are probably familiar with the online system and statements. The downside is control…if the company switches providers your money will switch too and we already talked about “lost” plans. If the company goes out of business or is bought, red tape can make getting or moving your money difficult. You can’t contribute once you leave.
If you have an outstanding loan balance, you may be able to continue to make payments while the plan is there, which is typically the case when the plan will allow you to stay. The loan balance would be considered a distribution if you close your 401k before the loan is repaid. This information would be in the plan documents. If you have an outstanding loan, leaving the 401k open until it is paid back is a nice option.
Roll it to a new company plan. There is no taxable event. Not all plans accept rollovers, check with the new employer. You will certainly want be clear on this before initiating any transfers. In the new plan you will have access to whatever investment options are available, at whatever costs there are. If a loan provision is included in the plan, that is the major advantage over an IRA.
Roll it to IRA. There is no taxable event. The IRA has some pros and one con. The IRA is an easy way to maintain control because you can use the same account anytime you change jobs. If your new employer makes you wait a year before opening a 401k, you can make contributions to your IRA.
Usually an IRA is opened by an advisor. Advisors charge a fee, commission to manage the money and professional advice is included. The advisor may charge more or less than the 401k. Again the important thing is to consider what you get. It may be more beneficial to pay more if you are getting advice you need.
In the event of your death, the beneficiary can stretch the tax deferral, which is a pretty big deal if you leave the account to someone younger than you.
The only downside is there is not a loan feature on an IRA as there is in leaving the plan or possibly the new plan.
Convert it to a Roth- This is a taxable event and needs to be discussed with your accountant before you do it. This is rarely the best choice because of the tax implications. A Roth IRA is usually opened with an Advisor and professional advice and vast investment options.