According to the Bureau of Labor Statistics, younger baby boomers (those born between 1957 and 1964) have held an average of 12 jobs between the ages of 18 and 50.1 So, in theory, you could potentially end up with 12 former employers’ retirement plans. Without coordination, these separate plans could be misaligned with your investment objectives, risk tolerance, and future consumption goals. Coordinating them is another piece of the financial planning puzzle. And there are just a few things you can do with your former employer’s retirement plan when you leave a job.
Options After You Leave
How to handle the 401(k) or other retirement plan at your former employer may not be your number one priority when you move from one job to another. And many people actually leave the money they have accumulated right where it is – in their former employers’ retirement plans.
If you do this, you are not abandoning your money or losing control over how it is invested. But leaving the money there may not be the optimal strategy. This is especially the case if you have more than one plan at more than one former employer.
In addition to leaving your money in your former employer’s plan, you can:
- Transfer the funds into a Rollover IRA
- Cash out your 401(k)
- Transfer the money to your new company’s plan
There are specific considerations for and against each of these options. Some may be right for one person but not another. Yet in every case, the issues to be considered are the same for everyone. They are also very straightforward.
Leaving the 401(k) With Your Old Company
If you’re nearing retirement age, you might not need to roll over your 401(k). If you’re 55 or older when you leave your job, you can gain access to the money in your 401(k) without having to pay an early-withdrawal penalty.
Commonly referred to as The Rule of 55 (or separation-from-service rule), it provides participants in an employer-sponsored retirement plan the ability to take penalty-free withdrawals when they separate from service after reaching age 55.
The Rule of 55 applies only to 401(k) plans when you leave your employer at age 55 or older. Other plans, like IRAs, don’t enjoy this exception. Generally, distributions taken at age 55 from all other types of retirement plans would be subject to an early withdrawal penalty.
But you'll lose this benefit if you transfer the funds to an IRA. Distributions from an IRA are typically subject to the early withdrawal penalty if taken before age 59½.
If your current 401(k) is performing well, that may be an argument for keeping the money with your former employer. Or maybe the investment options it offers are not available outside the plan. That might be another reason to leave things alone. If you are content with the investments in the plan, you can keep your money invested in it.
On the other hand, not transferring the money could expose you to higher fees over the long-term. So, you’ll need to do some research and compare current fees to expected ones in a transferred account.
Rolling Over the 401(k) Into an IRA
The main reason to roll a 401(k) into an IRA is consolidation. Having all of your assets at one custodian or with one financial advisor makes recordkeeping easy. It also makes it less likely that something might fall through the cracks.
Another important advantage you will have in transferring your former employer’s retirement plan money into your own Rollover IRA is choice. Almost all IRAs have more investment options, such as individual stocks and bonds, available to them than a given 401(k). Most 401(k) plans only offer mutual funds as investment options.
One disadvantage to rolling over from a 401(k) into an IRA can be a changing fee structure. Many company-sponsored retirement plans enjoy economies of scale that help keep fees low. You might not be able to compete with those lower fees on your own. If you roll over your 401(k) to an IRA managed by an advisor you will also incur advisory fees that can decrease your returns.
Cashing Out Your 401(k)
If you need a large sum of money for an extraordinary expense, and have no other source of liquidity, then cashing out your 401(k) is a relatively easy way to access funds. You will definitely want to consult an accountant before making this move. There could be tax consequences. The funds you take out are likely to be subject to income tax.
The tax implications make cashing out your 401(k) a potentially bad move. If you're younger than 59½, there could be a significant early-withdrawal penalty.
Transferring the Money to Your New Company’s Plan
One big benefit of moving your 401(k) account into your new employer’s plan is that it’s easy to keep organized. There isn’t an onerous recordkeeping issue when you maintain just one account.
Things to Consider Before Transferring an Existing 401(k)
There is no right or wrong answer about what you should do with an existing 401(k) or other retirement plan held at your former employer. The decision must fit your unique financial circumstances.
Having more than a few accounts at past employers could be unwieldy. Keeping track might be challenging. But if the investment performance and fees of those accounts – regardless of how many there are – blend well with your aggregate financial plan, then maintaining the separate accounts may be well justified.
Clearly fees and expenses are an important consideration one way or the other. But in the absence of a measurable advantage, keeping things simple and concise is probably an appropriate move. Financial planning is intended to guide you toward your future along the path of least resistance.
Consolidating retirement accounts in as few places as possible may make sense as long it doesn’t disadvantage you relative to a similar alternative.
Retirement savings fund your future. How you manage your money today matters. Whether you roll over your 401(k) into an IRA or transfer it into an account with your new company, the decision should be based on sound reasoning focused on optimizing your financial well-being.
The general rule of thumb should be for all of the pieces of your comprehensive financial plan to fit well together. Consult your Retirement Plan Advisor for guidance.