You just left your job. Do you leave your retirement money with the employer, or do you move it?
The following scenarios will explain the five choices you have.
Roll Your Old 401(k) to a New 401(k)
Sara is 45 years old. She took a better position at another company. The new company has good investment options in the 401(k) and the maintenance costs are low. She talks to Human Resources, and the company plan will accept a rollover from her prior employer’s plan.
Benefit – Sara keeps her retirement money consolidated and easier to manage. The new plan has good investment options and low maintenance costs. Monies remain in an ERISA account which provides creditor protection. Sara may also be eligible to take a loan.
Leave Assets in an Existing Plan to Access Benefits
Sam is 56 and wants to quit working. Most of the money Sam has for retirement is in his 401(k). He has a small IRA that he can access but since he is under 59-1/2, he will have a 10% early distribution penalty. Sam talks with the Human Resources department and learns he can take regular distributions from his 401(k). These payments would not be subject to the 10% early-distribution penalty. Sam must take the payments for 5 years, or until he turns 59.5, whichever is longer.
Benefit – Sam can stop working and focus on his health. He can receive monthly benefits that will be taxable income but not subject to the 10% early distribution penalty.
If Sam gets better and wants to return to work, he must continue his distributions from his 401(k) until the 5 years is completed.
Take a Lump Sum Distribution
Jake is 30 and has $10,000 in his 401(k). He starts a new job just as summer begins. He would like a new boat to play on the water this summer. He can’t quite afford the one he wants. The money in the 401(k) is enough to make the purchase. Jake takes a lump sum distribution from his 401(k). It will be subject to income tax and the 10% early distribution penalty. Jake has a terrific summer enjoying his boat.
If Jake had left that $10,000 invested until he was 60 (or for 30 years) at 7% return, he would have accumulated $76,000. Be sure when you enjoy today you leave money to enjoy in retirement.
Roll Over Your Assets to an IRA
Cindy is 62. She plans to retire in the next five years. She has been reading about investing during her retirement years. She is learning that preservation of your money is as important as accumulation. She would like to try the “bucket strategy” of investing – where you have cash and near cash for current expenses. And growth and income to help create cash flow. And some growth for long-term needs.
Cindy is looking at the investment choices in her 401(k). There are many growth options for accumulation but not many options for preservation or growth and income. She talks with the plan administrator. She would like to start taking her money from the cash bucket. She learns that distributions are taken pro-rata from each of the investments – those that are low risk and those that are growth. Her bucket strategy won’t work within the 401(k). She decides to roll her 401(k) into an IRA.
Benefit – Cindy has more investment choices in an IRA than the 401(k). She can control how the money gets withdrawn. Better service may be available. Estate planning options may also be enhanced. IRAs still have some creditor and bankruptcy protection but is not as strong as 401(k) and ERISA rules.
Convert Your Plan Assets to a Roth IRA
Luke and Lucy are a couple looking to retire in the next five years when they will be 65. Luke has one million in his 401(k) and Lucy has $600,000. They are concerned they are going to have a big tax bill when they have to take Required Minimum Distributions (RMD). They decide Lucy will retire now. She will convert her 401(k) into a Roth IRA. Her plan administrator will let her do that some each year. She converts $200,000 each year for the next three years into a Roth IRA. They are paying estimated taxes to cover this cost of including the conversion amounts in their income.
Benefit – Luke and Lucy have a Roth account that will grow tax free and not be taxable when they take distributions. They do have to leave the converted amount in the Roth account for five years. After that, they can access monies as needed to buy a car, replace the roof, take an international trip. When Luke reaches the age of 73, he will have to take RMDs. No RMDs are required on Roth IRAs. An additional benefit in moving 401(k) monies to a Roth IRA – their children will receive a tax-free asset as compared to the tax bomb Luke’s 401(k) may be if they don’t spend it down.
Summary
Below is a chart summarizing the choices you have for your 401(k) when leaving employment.
If you do nothing – you have chosen the first option. Be sure that is your choice and don’t lose track of the account.
401(k) Options After Leaving Employment
|
Option |
What it means |
Potential advantages |
Key Considerations |
|
Leave it in your former employer’s plan |
Keep the account where it is if the plan permits |
No immediate action; continued tax-deferred growth; familiar investment lineup |
You generally can’t make new contributions; fees and investment choices may be less favorable; If 55 or older you may access monthly benefits |
|
Roll it into a new employer’s 401(k) |
Move the old balance into your new workplace plan if that plan accepts rollovers |
Consolidates retirement savings; may simplify account management; maintains tax-deferred status |
Compare plan fees, investment options, and services first; not every new plan accepts incoming rollovers |
|
Roll it into an IRA (Traditional or Roth) |
Transfer the balance to a Traditional IRA (or an appropriate Roth account, depending on the assets) |
Often provides broader investment selection and more control over the account |
IRA fees, investment cost, creditor protections, withdrawal rules, and future Roth-conversion strategies may differ from a 401(k) |
|
Cash it out |
Take the account balance as a lump-sum distribution |
Provides immediate access to cash |
Usually creates taxable income; withdrawals before 59½ may also trigger a 10% additional tax unless an exception applies; reduces retirement savings substantially |
Securities offered through Registered Representatives of Cambridge Investment Research, Inc., a Broker/Dealer, Member FINRA/SIPC. Advisory services offered through Cambridge Investment Research Advisors, Inc., a Registered Investment Advisor. Boise Retirement Coach and Cambridge Investment Research Advisors, Inc. are not affiliated.
Material discussed is meant for general illustration and/or informational purposes only, and it is not to be construed as investment, tax, or legal advice. Although the information has been gathered from sources believed to be reliable, please note that individual situations can vary. Please consult with your financial advisor prior to making any investment decisions.
