One of the common threads of a mobile workforce is that many individuals who leave their job are faced with a decision about what to do with their 401(k) account.
Individuals have four basic choices with the 401(k) account they accrued at a previous employer.
Choice 1: Leave It with Your Previous Employer
You may choose to do nothing and leave your account in your previous employer’s 401(k) plan. However, if your account balance is under a certain amount, be aware that your ex-employer may elect to distribute the funds to you.
There may be reasons to keep your 401(k) with your previous employer —such as investments that are low cost or have limited availability outside of the plan. Other reasons are to maintain certain creditor protections that are unique to qualified retirement plans, or to retain the ability to borrow from it, if the plan allows for such loans to ex-employees.
Some reasons to move are that individuals can become disconnected from the old account and pay less attention to the ongoing management of its investments. There is usually a limited amount of funds available in employer sponsored plans as well.
Choice 2: Transfer to Your New Employer’s 401(k) Plan
Provided your current employer’s 401(k) accepts the transfer of assets from a pre-existing 401(k), you may want to consider moving these assets to your new plan.
The primary benefits to transferring are the convenience of consolidating your assets, retaining their strong creditor protections, and keeping them accessible via the plan’s loan feature.
If the new plan has a competitive investment menu, many individuals prefer to transfer their account and make a full break with their former employer.
Choice 3: Directly Roll Over or Transfer Assets to a Traditional Individual Retirement Account (IRA)
The next choice is to roll assets over into a new or existing traditional IRA. A traditional IRA may provide some investment choices that may not exist in your new 401(k) plan.
If you choose to receive a distribution and rollover the distribution into an IRA, you will receive a lump sum and deposit it into a rollover IRA account.
Directly transferring your distribution to an IRA allows you to avoid the mandatory 20% tax withholding and potential early withdrawal penalties, and you will defer income taxes on the
distribution until you make withdrawals from the IRA.
In addition, it's important to note that if you keep funds in a 401(k) there will be a mandatory 20% tax withholding on any money you withdraw from the plan. However, if you rollover the assets into a traditional IRA you can work with your advisor and determine the appropriate amount of tax withholding based upon your personal tax situation.
Choice 4: Keep the distribution from the qualified employer plan.
If you choose to keep or spend your distribution, 20% of the taxable portion will be withheld immediately and paid to the IRS at the time of withdrawal. You will be subject to federal (and
state) income taxes on the taxable portion of the amount distributed, and a 10% penalty for early withdrawal may apply if you are under age 55 when you retire or terminate service.
Remember, don’t feel rushed into making a decision. You have time to consider your choices and may want to seek professional guidance to answer any questions you may have. Give our office a call if we can help you make the best decision for your situation!
This is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon. This information does not constitute tax or legal advice. Please contact your tax and legal advisor about your particular situation. (02/21)