There was a time when the economy was not so strong and jobs were few and far between. Back then, if you were lucky enough to get a job, you probably ensured that you worked there till you retired. You worked your tail off, ascended the corporate ladder, and retired to enjoy your old age with a strong and healthy pension. However, those things seem to be things of the past now. People have a lot more options these days and they don’t need to stick around the same job forever. In fact, switching jobs to increase your pay and position within a firm is a trick which a lot of people practice these days. Two of the major things have changed in recent years: pensions have been replaced with 401(k) plans, and most people no longer work for the same company their entire career. In fact, according to a Bureau of Labor Statistics report, people on average stay at their jobs for 4.6 years, which means job-hopping has become the new normal.
Leaving a job is rarely a simple process though. And by all means, if that’s what you need to do in order to enhance your career, go ahead and do it. However, while you are doing that, don’t forget to keep track of your 401(k) fund so that you don’t lose out on your savings or are forced to enroll in multiple plans.
Here is what happens to your 401(k) when you quit your job:
1. You can keep your plan with your old employer
The first thing you need to decide is what to do with the money in your old plan. The simplest and most direct option is to leave it with your former employer’s plan.
If you leave it with your former employer, you won’t need to do anything extra and your account stays where it is. However, there is one disadvantage, it’s that you may be charged some of the fees that the company usually pays for but doesn’t cover for ex-employees. Another thing you should remember before exercising this option is whether you left your old job on good or bad terms.
2. You can roll your old plan into your new employer’s plan
If you don’t want to keep your money in your previous employer’s plan, you can choose to roll over your 401(k) account to your new employer’s plan.
Check with the administrator of your new plan to find out if you can roll it over right away, or if you have to wait until you’re eligible to participate in the plan to do so. When you exercise this option, you can keep the entirety of your 401(k) money in one account.
3. You can roll your plan into an IRA
If you’re undecided on where to move the funds, you have a third option: an Individual Retirement Account, or IRA. In case you choose this option, you can also transfer the account to a future employer’s plan later on. Utilizing the IRA will give you more flexibility and give you more time to decide where you ultimately want to invest the money. Moving the funds into an IRA can be accomplished with a simple account-to-account transfer, which is a transaction your financial advisor can assist you with.
4. You shouldn’t cash out your account
You will also be given the chance to cash out of your plan once you leave. It might be tempting if you don’t have a new job lined up, but doing so would be a huge mistake.
For starters, you will have to pay taxes on the full amount that you receive and will most likely have some of the taxes withheld before you even receive your check.
If you are under age 59.5, you will also have to pay a 10 percent penalty for taking the money before retirement. Worst of all, you will be taking money today you had earmarked for tomorrow, which would wipe out all the work you’d been doing towards retirement.
5. Double check all investment options and costs
If you’re debating between rolling your 401(k) account into your new employer’s plan or an IRA, investment choice is one thing to consider. While you will be limited to the investment menu offered by your new employer, it can be both good and bad for you. Investing in an IRA will give you more flexibility as it allows you to select from various kinds of investment.
Another important factor to consider is cost. You must compare the costs of your existing plan, the new company’s 401(k) plan, and the expenses of the IRA you’re considering. The fees tend to vary greatly. Make sure that you keep this in mind while making your decision.
6. Make your decision before your employer makes it for you
While taking time to do your due diligence and making the right decision is important, if you take too long, your employer might end up deciding for you, and you will be forced to live with it.
If your account balance is below $5,000, your former employer can force you out of the plan and into an IRA account that they designate if you drag your feet. The expenses of these accounts are usually high, and the investment choice is usually limited.
If your account is worth less than $1,000, they can send you a check, even though that isn’t what you want to be done, and it subjects you to taxes and even penalties.
7. Repay any loans from your 401(k).
When you leave your job, make sure that you have no outstanding loans from your 401(k). If you do, pay them off as soon as possible after your last day of work.
You have until the due date of your tax return (including extensions) to repay any loans you have taken from the plan, or you will default on the loan because your preferred method of loan repayment, which is usually from your paycheck, stops flowing in once your employment is concluded.
If you default on the loan, you can expect your former employer to notify the Internal Revenue Service via an IRS Form 1099-R, which will report the unpaid amount.
That amount will be treated as taxable income subject to income tax. If you’re under age 59.5, you’ll have to pay a 10 percent early withdrawal penalty, as well.
8. Your options are different if you’re retiring.
If the reason for your departure from the firm is retirement, you will still have plenty of options when it comes to choosing what to do with the money in your 401(k) account. You can keep it there and take money out as needed. You also have the option to roll all your money over into a rollover IRA account and assume complete responsibility for its management. Some plans allow you to take your money out in the form of an annuity, a guaranteed monthly benefit for the rest of your life. Knowing what to do with your 401(k) amount after retirement is crucial and you should discuss what to do with the amount with a professional advisor. It can make all the difference.
Now that you know what happens to your 401(k) when you quit your job, you will be in a better position to manage it once you leave your current job, either for a new job or through retirement.