Whether you’ve thought about making a career change in the past or just got laid off due to the pandemic, your 401(k) may be at the bottom of your to-do list. However, moving your 401(k) is an incredibly important step that must be well-thought-out, especially for HENRYs (High Earners, Not Rich Yet). When leaving an employer, there are typically three workable opportunities to continue the growth of your retirement funds. Understanding which route offers more advantages for continued growth that will align with your next chapter in life is the first step.
The first step is to read through your plan's agreement. Doing so will help you understand if your employer plan accepts rollovers as some may not. Ultimately, plan sponsors maintain the membership guidelines. In some cases, your former employer’s plan may allow the sponsor to cash-out the account when you end employment. Withdrawals could trigger income taxes and a 10 percent penalty.1
Before you start, gather any appropriate account statements and contacts. When you signed up for the plan, you may have selected both a traditional 401(k) and a Roth 401(k) but keep in mind, these are two separate accounts. Traditional 401(k) contributions are not taxed but are subject to penalties in the case of early withdrawal. Roth contributions, on the other hand, are taxed but withdrawals have no adverse effect as long as the distribution is considered qualified by the IRS.2
It’s a good idea to meet with a financial advisor before starting the process. You‘ll want to choose the right type of retirement account and avoid paying taxes or penalties for potentially choosing a plan that isn’t right for you. For example, if you decide to roll your 401(k) into a Roth, you should prepare to pay taxes on the full amount.
A financial advisor can help you make informed decisions as you continue saving. They can offer assistance by reviewing your previous employer’s plan and weighing the benefits of your new employer’s retirement plans. More importantly, their involvement will make sure the necessary steps are taken to move your funds with limited repercussions.
If you leave money in your previous employer’s plan, it’s a good idea to have an advisor review the plan’s progress over time. If you decide to transfer funds, the previous plan’s administrator can often send the check to a designated contact. Working with your advisor will be beneficial as they can coordinate such transactions.
Depending on the length of your previous employment, it’s a good idea to also check the associated vesting schedules. Vesting schedules are tied to the employer’s contributions and determine the amount and date when the employer’s contributions are legally yours. Your own contributions are fully vested from day one.
Age is another contributing factor when deciding how to approach a former employer’s 401(k). For instance, if you quit a job, are laid off or fired the year you turn 55, you may withdraw funds penalty-free from the 401(k) established through that employer only.3 If you choose to roll the funds over into another 401(k) or IRA, you will need to wait to withdraw those funds until age 59½ in order to avoid the 10 percent withdrawal penalty. In addition, this penalty-free withdrawal does not count for 401(k) accounts established through previous employers. It only is eligible in regards to the account established with the employer you've left at age 55 or older. If you're unsure about what options may be right for you, talk with a financial advisor to help ease your concerns and help you avoid costly mistakes.
It’s important to also keep in mind that your new employer may have a waiting period before you’re able to rollover funds. In this case, your advisor may suggest that you open an investment account to continue contributions during the waiting period. Opening another account allows you to take advantage of the tax deduction until you make your final decision. Keeping investment growth active could be more beneficial for you in the long run.
From old job to new, you’re on the right track by having already started saving for retirement. By working with a financial advisor, you’ll gain further insight and understand the regulations of moving your funds in the most beneficial way. They will also help with navigating any future changes you may encounter.
If you've just changed jobs and you're wondering what your next steps should be, download our free checklist.