Changing Jobs? Here’s What to Do With Your Old 401(k)

I recently changed jobs and was surprised to find just how complicated it was to decide what to do with my old employer-sponsored 401(k) account. The nearly 50-page instructional packet my ex-employer sent me was highly technical and downright convoluted.

And if I’m being honest, there was enough going on already that reading the equivalent of a small book to decide what steps I should take was not very appealing.

If you have recently changed jobs — or are planning to in the near future — here are your three choices for what to do with your 401(k) account:

Do nothing (keep your savings in your previous employer’s plan).
Transfer the balance to your new employer’s plan.
Roll over your balance into an individual retirement account (IRA).

Image source: Getty Images.

The best option for you depends on a number of factors.

Option 1: Do nothing

As long as your balance is greater than $5,000 you can simply leave your savings in the old account if you’d like. With less, your employer has the option to force you to take your money and choose another option.

The main reason to do nothing is because you’re already satisfied with the investment options at your disposal in your previous employer’s plan. Many employers provide a limited menu of options for you to invest your money, usually a handful of mutual funds and the option to invest in company stock.

If your ex-employer offers freedom to invest in a wide breadth of stocks, bonds, and exchange-traded funds (ETFs), then it makes a lot of sense to just leave your savings in the old account so you can continue to have freedom over how you invest your money.

Option 2: Transfer the balance to your new 401(k)

If your new employer offers a 401(k) benefit and the investment options are robust, it might be convenient to simply have your old balance wired to the new account, especially if the investment menu is more diverse than your previous employer’s plan.

It’s important to note that some employers have a probation period before your retirement benefit goes into effect, so take this into account before you decide what to do.

Option 3: Roll over your 401(k) balance into an IRA

If your new employer does not offer a 401(k) plan or you’re transitioning to independent contractor status, it might make sense to roll your savings balance over into an IRA account (also known as a Rollover IRA). An IRA is a retirement account that is not tied to your employer, and provides tax benefits in the form of deductions on your contributions.

Just like with option 2, this really comes down to the investment options in your existing 401(k). If you are happy with the menu of investment options in your old account, it might make sense to leave the money there.

However, IRAs usually give investors access to all the investment options you would get in a self-directed brokerage account, so if having all your money in one place is important to you, an IRA rollover likely makes sense.

Direct transfers vs. indirect transfers

Before deciding which option to choose, it’s incredibly important to understand the difference between a direct transfer and an indirect transfer.

A direct transfer is when the balance is moved by your ex-employer or account administrator straight to your new retirement account. This does not trigger any taxable events and is not considered an early withdrawal.

An indirect transfer is when your ex-employer or account administrator liquidates the holdings and cuts you a check for the balance of the account. This will trigger what’s known as the 60-day rule. In this instance you’ll have 60 days to transfer the money into the new account.

If you are under the age of 59 1/2 and you fail to transfer the money in that time frame, you will be penalized 10% for an early withdrawal. If that’s not enough reason to choose a direct transfer, your old employer will also withhold 20% of your balance for taxes and you will have to add 20% of additional funds to the transfer in order to get reimbursed by your old 401(k) administrator.

Direct transfers are not only less complicated, but they also do not force you to sell stocks or other investments that could trigger taxable events or early withdrawal penalties.

Image source: Getty Images.

The right choice depends on what’s most convenient for you

Choosing what to do with your employer-sponsored 401(k) account when changing jobs largely comes down to what you value in a retirement account.

If you are happy with simple investment choices like a few target-date funds, then there’s little reason to do anything. If you want more investing options than what your current plan offers, consider a transfer.

Or maybe you just like to see all your retirement savings in one place. All are valid reasons to decide for or against transferring your balance.

Finally, this is designed to be an overview of the options available to you, but before making any decisions, consult a financial professional.

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