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If you’re one of the millions of workers who quit their jobs as part of the so-called big quit that still rumbles through the job market, be sure not to neglect your 401(k).
While you may have options about how to manage retirement savings in your ex-employer’s plan, there are situations where the decision is made for you if you don’t act — and that’s not maybe not in your best interest.
“It’s best to deal with it during the first two months of this transition to a new job,” said Haley Tolitsky, certified financial planner at Cooke Capital in Wilmington, North Carolina.
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Workers continue to quit their jobs at near-record levels in search of better opportunities in a tight labor market. About 4.3 million people voluntarily quit their jobs in May, about the same as in April and down slightly from more than 4.4 million in March.
While not everyone has a 401(k) plan or similar workplace retirement plan, those who do need to know what happens to their account when they leave a job and what the options – and no.
You have three main options for an old 401(k)
Generally speaking, you have several options for your old 401(k). You can leave it where it is, take it with you to your new work plan or an IRA, or cash it in – although experts generally advise against doing this.
Perhaps the easiest thing to do is to leave your retirement savings in your former employer’s plan, if permitted. Of course, you can no longer contribute to the plan.
However, while it may be the easiest immediate choice if available, it could lead to more work in the future.
Basically, finding old 401(k) accounts can be tricky if you lose track of them. There is, incidentally, legislation pending in Congress that would create a “lost and found” database to make it easier to locate lost accounts.
“It’s really common,” Tolitsky said. “People change jobs, they have life changes, they forget about it, and then 10 years later, they don’t even know who [the 401(k)] was with or who the supplier was. »
Also be aware that if your account is small enough, you may not be able to keep it with your ex-employer, even if you want to.
If the balance is between $1,000 and $5,000, your ex-employer can carry the amount over to an Individual Retirement Account, or IRA. If the balance is less than $1,000, the plan may cash you out, which may result in a tax bill and an early withdrawal penalty.
“If you can avoid it, you don’t want to cash in your 401(k),” said Kathryn Hauer, CFP at Wilson David Investment Advisors in Aiken, South Carolina. “Doing this with a traditional 401(k) means you’ll likely pay a 10% tax penalty.”
Your other option is to transfer the balance to another qualified retirement plan. This could include a 401(k) with your new employer — assuming the plan allows for it — or an IRA rollover.
Be aware that if you have a Roth 401(k), it can only be transferred to another Roth account. This type of 401(k) and IRA involve after-tax contributions, which means you don’t get tax relief like you do with traditional 401(k) plans and IRAs.
However, Roth money grows tax-free and not taxed when you make qualified withdrawals down the road.
Matching contributions may not belong to you
While the money you put into your 401(k) is still yours, the same cannot be said for employer contributions.
Vesting timelines — the length of time you must stay with a company for its matching contributions to be 100% yours — range from immediate to six years. Any unearned amounts are generally forfeited when you leave your business.
Ongoing 401(k) loans can be tricky
Among 401(k) plans that allow participants to borrow money, about 13% of people had an outstanding loan last year, according to Vanguard’s How America Saves 2022 report. The average balance was $10,614.
If you quit your job and haven’t repaid those borrowed funds, chances are your plan will require you to pay off the remaining balance fairly quickly. Otherwise, your account balance will be reduced by the amount owed – called “loan compensation” – and treated as a distribution.
Simply put, unless you are able to find that amount and put it into a qualifying retirement account by the next year’s tax filing deadline, it’s considered a distribution that may be taxable. . And, if you’re under 59.5 when you leave your job, you can pay a 10% early departure penalty.
According to Vanguard, about a third of employer plans allow former employees to continue repaying the loan after they leave the company. It’s worth checking your plan’s policy.
Moving a 401(k) can have unintended consequences
It’s worth talking to a financial advisor before moving your old 401(k). In addition to portfolio considerations such as investment choices and fees, there may be planning implications.
For example, there’s something called the rule of 55: if you quit your job in the year you turn 55 or later, you can take distributions without penalty from your current 401(k). . If you transfer the money to an IRA, you generally lose the ability to use the money before age 59½ without paying a penalty.
Also, if you are the spouse of someone who is considering transferring their 401(k) balance to an IRA, be aware that you would lose the right to be the sole heir to that money. With the workplace plan, the beneficiary must be you, the spouse, unless you sign a waiver allowing it to be someone else.
Once the money lands in the rolling IRA, the account holder can designate anyone as a beneficiary without their spouse’s consent.