Jul 26, 2022
Leaving your old job? Initiate a 401K rollover
Quitting? Fired? What about your 401(k)? We explain.
As of May last year, there were an estimated $24.3 million forgotten or left behind 401(k)s, according to a study conducted by Capitalize, totaling $1.35 trillion in abandoned assets.
Life happens in chapters. And sometimes, a new chapter involves getting a new job or losing your current one. There can also be some cliffhangers from the preceding chapter, but one thing to not leave behind is the money you had saved for retirement with that employer through your 401(K) plan.
What’s a 401(k)?
A 401(k) is a type of retirement savings account that an employer sponsors–so, only employees of a company that offers one can contribute. Employees who enroll in a company’s 401(k) plan automatically contribute money to an account through payroll deductions.
There are two different types of 401(k). One is called a traditional 401(k) and the other is called a Roth 401(k).
You usually fund a traditional 401(k) with pre-tax earnings, which is the gross pay you earn each month before taxes and other deductions have been taken out. By contrast, you usually fund a Roth 401(k) with post-tax earnings, known as your net income. This is the money you take home after taxes and other deductions have been taken out.
There is an annual contribution limit of $22,500 for individuals under the age of 50, and $30,000 for those over 50 as of 2023. This is an increase from the previous year, which had an annual contribution limit of $20,500 for those under 50 and $27,000 for those over 50. Contributions over these limits are subject to income taxes.
Some employers also offer matching contributions, which means that a company will match the funds an employee contributes to a 401(k) every pay period, usually up to a certain percentage, for example up to 3% of your contribution.
What you can do with your old 401(K)
You can rest easy, because your money isn’t going anywhere—it’s your money, and you have control over what happens to it. And you have several options to choose from.
Option 1: Leave the money in the current 401(K) plan
Unless your employer says you have to close the account or you have to take the money with you, you can leave the money in your old employer’s account as long as it meets a certain threshold (typically, a minimum of $5,000 must be in the account). The downside of this option is that you will also no longer be able to contribute to the old account, as you won’t be working for the company that sponsors the plan.
Option 2: Take a taxable distribution
While this is an option, it is not recommended unless you’re facing a financial hardship that your emergency fund can’t cover. You have the ability to “cash out” your 401(K) account, but you’ll be subject to taxes and early withdrawal fees on the balance, depending on your age. If you’re under age 59½, early withdrawal penalties can be as high as 10%, and the income tax due will depend on your federal and state tax brackets.
Option 3: Roll the funds over to your new employer’s 401(k) plan
If you’re offered a 401(k) plan at your new job, you can set up a 401(k) rollover transfer from your old provider to your new one. Depending on your provider, you may be able to initiate the transfer online—or, your old provider may send you a check with the funds that you must deposit into your new account.
Option 4: Roll the funds over to an IRA with a 401(K) rollover
You can initiate a 401(k) rollover into a traditional IRA. This is the most popular method because you get to choose the financial institution and you have more flexibility and control over what your investments are. Many people see leaving an old employer as an opportunity to get your money out of a 401(K) and into an IRA where you have more control and it’s more tax efficient.
To do this, you’d choose an IRA provider and open an account, and then ask your 401(k) provider to roll over the funds into your new account.
The best move will depend on your individual situation. But even if you do find yourself without a job, try your best to keep saving—it’s tough to play catch-up when it comes to your retirement savings.
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Traditional IRA: Withdrawing prior to age 59½, generally means you’re subject to income tax and a 10% penalty. Withdrawals after age 59½ are only subject to income tax but no penalty.
Roth IRA: Withdrawals of the money (Contributions) you put in are penalty and tax free. Prior to age 59½, withdrawals of interest and earnings are subject to income tax and a 10% penalty. All earnings are tax free at age 59½ or older, assuming your first contribution was more than 5 years prior. Income Eligibility applies.
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