There are many things to think about when you decide to switch employers, including what will happen to your 401(k). The good news is that your retirement savings don’t disappear like your other employer-provided benefits, such as health insurance and paid leave.
You have several options for managing your old 401(k) and similar retirement plans, so your portfolio can continue building wealth and achieve your long-term financial goals.
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How to Handle an Old 401(k)
In most situations, you get to decide how your old 401(k) plan will be managed after completing a career transition. It doesn’t matter if you quit, get fired, or are laid off.
Here are 5 of the most common 401(k) options.
The default option is to leave your existing 401(k) with the same provider until you’re ready to transfer it or start receiving distributions when your balance exceeds $5,000.
However, employers can exercise the following rights with smaller balances:
- Balances between $1,000 and $5,000: Move the money into an IRA of the company’s choice.
- Balances under $1,000: Liquidate all holdings and mail you a paper check for the balance (this is a taxable event unless you deposit the funds in a tax-advantaged account within 60 days)
If you decide to keep your 401(k) where it is for the time being, you can continue rebalancing your portfolio and access the plan provider’s current investment options.
There isn’t a deadline to move or cash out your portfolio, and it’s possible to keep it parked until you reach retirement and can make penalty-free distributions.
Unfortunately, you can no longer contribute new money or receive matching contributions.
Regarding employer matches, verify that the matching contributions are fully vested before transferring out your balance to avoid giving back some of the proceeds.
Additionally, you must continue paying the annual management fees, which can either be a fixed amount or a percentage of your account balance. As this fee can be relatively high, you may decide to roll over or transfer your account to a low-cost investing account to avoid this fee.
Transfer to Your Current Employer
If you’re pleased with your new employer’s 401(k) plan investment options, you may be able to transfer the balance from your old 401(k) and avoid taxes and penalties. Consolidating 401(k)s can be an excellent decision if the new plan provider has comparable or lower fees.
You may need to initiate the transfer request with your old provider, but your new provider can usually complete the process. First, check with your new plan provider to see how a direct 401(k) transfer works and your role in the process.
Usually, you will need to complete a transfer request form and provide the account details, and the providers will take it from there.
Depending on your existing portfolio allocation and your new plan provider, it’s possible to make an in-kind transfer that keeps your current stock and mutual fund holdings intact.
It’s also possible that the old provider may liquidate shares and deposit a cash balance. While you must decide how to invest the money, these stock sales are non-taxable as they occur in a tax-advantaged account, and you’re not requesting a withdrawal.
Why a Direct 401(k) Transfer May Not Work: If your old employer rolled your funds into an IRA or liquidated the balance within 30 days of ending employment, then you may not be able to transfer the money directly into your new 401(k) plan.
While this policy seems harsh, it minimizes operating costs for your old employer. Contact your former HR department or watch for mailed correspondence regarding your retirement plan options.
Roll Over to an IRA
If you don’t like your new employer’s plan, choosing a rollover IRA will give you more flexibility. You’re also far less likely to pay any annual account maintenance fees if it’s a self-managed account, although fees will apply for managed IRAs.
The rollover process is simple and takes only a few days to complete. Using a service like Capitalize can simplify the process, whether you have one or several old 401(k) plans that you want to convert into an IRA.
The most common option is to convert a traditional 401(k) to a traditional IRA and a Roth 401(k) into a Roth IRA.
Your new broker may also allow you to transfer your traditional 401(k) to a Roth IRA. The conversion amount is subject to income taxes, but you won’t pay any additional taxes or penalties on future distributions when your account has been open for at least five years, and you’re at least 59 ½ years old.
Open a Self-Directed IRA
Most people associate a rollover IRA with an online stock brokerage used to invest in stocks and bonds.
You can also access alternative assets like physical real estate or precious metals, but you must use a different type of IRA to continue enjoying tax-advantaged investing.
A self-directed IRA fulfills this investment purpose and gives you more freedom to invest. It’s also an excellent investment opportunity for accredited investors.
Self-directed IRAs charge annual account management fees similar to a 401(k). Therefore, consider this option when you have a sizable portfolio balance.
Cash It Out
There are several circumstances when liquidating your 401(k) and receiving cold hard cash in your bank account is the better choice. However, younger workers will likely encounter the dreaded 10% early redemption penalty.
You’re Near Retirement
This option makes the most sense when you’re at least 59 ½ years old and can make penalty-free distributions, although your pre-tax funds are subject to ordinary income taxes.
If you have a Roth 401(k), verify that the first contribution occurred at least five years ago, as your withdrawals are still subject to the 10% early distribution penalty even if you’re of age.
Instead, you can place your proceeds in low-risk investments that earn competitive yields with less volatility.
The IRS makes provisions for equalized retirement plan distributions under Section 72(t). Consider this option if you don’t want or need a lump-sum distribution to give your nest egg more time to remain in the market and earn compound interest.
While this option throttles your withdrawal speed to preserve your retirement fund, distributions made before you turn 59 ½ are subject to the 10% early distribution penalty unless you have a qualifying exception.
Most early withdrawals are subject to a federal 10% penalty on top of income taxes. It’s possible to waive the fee for these qualifying expenses:
- IRS tax levies
- Unreimbursed medical expenses (exceeding 10% of adjusted gross income)
- Health insurance premiums while unemployed (qualified IRAs only)
- Separation of service (After age 55 and after age 50 for public safety employees)
- First-time homebuyers (IRAs only, up to $10,000 per individual)
- Corrective distributions (after making excess 401(k) contributions)
Like any fee waiver, terms and conditions apply and are subject to changes at any time. Additionally, the withdrawal guidelines differ between 401(k)s and IRAs, and you may need to request a rollover IRA first. You can read the IRS rules here to learn more.
Prefer a Taxable Account / Have Short-Term Financial Needs
Paying the 10% penalty can be a small price to have more flexibility with your retirement savings. While you no longer enjoy the traditional or Roth tax benefits, you can invest in a taxable brokerage account, pay off debt, or cover other one-time expenses.
For example, maybe you need the funds to pay the bills during a career transition or to buy an investment property or other alternative assets.
Cashing out your 401(k) isn’t the best long-term financial move if you have a few decades until retirement and your nest egg needs extra funding. Additionally, it can be challenging to find the funds to replenish your distribution amount, and your cash is uninvested, similar to a 401(k) loan.
As a result, consider cashing out your 401(k) as an option of last resort.
It’s possible to keep 401(k) balances above $5,000 at an old employer indefinitely as long as you pay the annual account service fees.
However, federal provisions permit workplaces to automatically convert balances between $1,000 and $5,000 to an IRA or liquidate accounts smaller than $1,000. You have 60 days to place the funds into a qualifying retirement account and avoid taxes and penalties.
No, employers cannot keep employee 401(k) contributions under any circumstance. However, it is possible to collect employer-funded contributions that are not fully vested.
Usually not, although you may need to pay a final account management fee with your old provider, and your new provider may charge a similar recurring expense. A rollover IRA is the best way to avoid any account fees in the future.
No, transferring a 401(k) to your new employer or rolling it into a similar IRA (i.e., traditional 401(k) to a traditional IRA) won’t incur ordinary taxes or penalties. However, your balance is subject to taxation when converting a tax-deferred traditional account into a Roth IRA.
You don’t need to worry about what will happen to your 401(k) when you quit or get laid off from your current job, as you will always have access to your funds.
In most situations, you won’t need to take immediate action. Instead, focus on more critical matters during a career transition.
A notable exception is when your balance is less than $5,000, as you may need to transfer to another retirement account in a timely fashion to avoid taxes and penalties.