What to do with Your Old 401(k) When Changing Jobs

401k

When you are looking forward to a new job, your retirement savings plan is typically not the first thing on your mind. However, for many of us, an employer-sponsored 401(k) is one the biggest and most financially beneficial perks of a job. Your 401(k) is your future. It is a huge factor in your ability to retire when you are ready and live comfortably in your golden years. That being said, what happens to your old 401(k) when you leave your current job? The best decision will often depend on your specific financial circumstances. Here, we look at the four options you have for your 401(k) when you are starting a new job.

1. Leave it

Of all the options available to you, leaving your 401(k) where it is with your previous employer is the easiest option. The money in your account will continue to grow tax-deferred and be available to you upon retirement. If the plan comes with low fees and good investment options, you may want to stick with it. There are some cons to keeping your 401(k) with your previous employer. Depending on the employer, you may not be able to make additional contributions, take a plan loan, or make a partial withdrawal once you leave. Some employers will charge higher fees if you aren’t an active employee. There is also the risk that you could miss important updates about your plan, or forget about the account entirely. This option will highly depend on your individual circumstances and the details of your former employer’s plan.

2. Roll it into your new plan

While this may not be an option with all plans and every place of employment, this option will allow your retirement savings to continue growing, tax-deferred. You will be allowed to make contributions to the account, typically after a mandatory probation period ends. If your new employer has a better plan (lower fees, better investment options, etc.), it might be worthwhile to take your money with you. There are two ways you can roll your old 401(k) into your new one:

  • Direct rollover: The administrator of your old plan transfers the money directly into your new 401(k) account.
  • Indirect rollover: The administrator of your old plan transfers the money directly to you. Then you must manually apply the money to your new account. This option is typically for people who are in need of a short-term loan. Your employer will withhold 20% for taxes in case you decide to keep the money outright. If you add the money to your account in full within 60 days, the 20% will be returned to you when you file your tax returns.

3. Roll it into an IRA

Instead of rolling over your savings into another 401(k), you could put those funds into an individual retirement account (IRA). Because this account does not have to be connected to an employer, it is a great option for those leaving their job to go back to school, become stay-at-home parents, start their own business, or for those who do not have access to another 401(k). The money can be sent directly or indirectly, only this time you will not have to pay taxes like you would with a 401(k) or a Roth IRA. With an IRA, your money will be able to grow tax-deferred and you will have access to a wider variety of investment options than with a 401(k). An IRA also does not require you to pay fees if you withdraw your money for college, to buy your first home, or to pay off medical debt.

4. Cash Out Your 401(k)

When it comes to deciding whether or not to cash out your 401(k), it really depends on you and your specific circumstances. Most financial planners and asset protection attorneys will advise against it; taxes and penalties will cause you to lose a big chunk of the money you and your employer have invested. However, you know your financial situation best. You may need a big lump of cash to go back to school, as an emergency fund when one parent decides to stay home with the kids, or to start your own business. If you are considering cashing out your 401(k), you MUST make sure you understand what it will cost you.

When you cash out your 401(k), your employer will typically withhold 20% of your balance to pay off the IRS. You will also have to pay state taxes and, if you are under 59 ½, a 10% early withdrawal fee. It is also important to understand that by cashing out this money early, you will be missing out on the money your account could be making in the years between now and retirement. A 401(k) with $50,000.00 when you are 35 will turn into $216,000 by the time you retire at 65. If you were to cash out this 401(k) now, after taxes, fees, and penalties, you would receive approximately $35,000.

Veitengruber Law has experience providing long-term planning guidance at any stage in your career. Protecting your assets and preparing for retirement will look different for every client. We offer personalized strategies to help you make informed decisions about your retirement goals.

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Is it OK to Raid My 401(k)?

8265139231_3bcf9c8a26Image source: Chris Potter

Last week, we discussed the challenges that parents are facing when it comes to putting their kids through college while the cost of tuition has risen and continues to rise to astronomical heights.

Without careful planning years before your child(ren) even begin to think about applying to college, you could conceivably find yourself between the proverbial rock and a hard place when it comes to financing four years (and sometimes more) of continuing education. In a quandary, you may take a look at all the money you’ve saved for your upcoming retirement and wonder if you could or should borrow from one or more of those accounts – in particular, your 401(k).

Our general advice to parents who are contemplating borrowing money from their 401(k) in order to give their child a fully or at least partially funded college education is this: Back away from the 401(k). The risks associated with filching your own retirement funds include: money in your 401(k) is tax-sheltered, however, when you pay back what you borrow, you must use after-tax money. Sure, you have 12 months to pay back any money borrowed without a penalty, however, if you lose your job or leave by choice, any 401(k) loans that you have taken must be paid back immediately. If you fail to do so, you’ll be charged income tax on the remaining amount you owe, plus a 10% penalty fee.

With all of the above being said, we feel that giving blanket answers to financial questions isn’t very accurate, even regarding taking a retirement loan. So, YES, there is a case to be made for tapping into your 401(k) account, in very specific circumstances.

If you can confidently say that you are totally secure in your retirement and that you don’t actually need the money provided by your 401(k) or IRA, it could be a smart move for you to use some of that money to pay for your child’s or grandchild’s college tuition.

Another circumstance: if you happen to fall into a tax bracket that charges zero percent because you have high medical costs, distributing some of your retirement money now is probably a good idea for you and your loved ones. Wondering why? Simple – it’s better to share the wealth while you are in a zero percent tax bracket instead of gifting the money through your Last Will and Testament because it’s unlikely that your beneficiaries will be in the zero percent tax bracket at the time of your passing. In fact, some may fall into the fifty percent bracket if they had great schooling and pursued a high paying career. Naturally, because of the higher taxes they’ll have to pay, they will receive significantly less of your hard earned savings. Better to use the money now while you can get more bang for your buck.

Even if you are in a fantastically secure financial position regarding retirement, there are still better ways to help your child or grandchild pay for college than dipping into your retirement accounts, just in case things change drastically. Since retirement brings with it many uncertainties, it’s still a good idea to have your (grand)child take out some student loans. As long as the child remains in school, offer to pay for the interest on the loan. This will drastically lower the amount of accrued interest on the loan(s). After graduation, you can assist with loan payback, as long as your retirement outlook is very bright. In that situation, though, it would still be better if you were using income other than your retirement fund to help out.