Objective information about retirement, financial planning and investments


401(k) Options When Leaving Your Job


Retirement Funds over Time

Perhaps you are retiring or perhaps you are moving on to another opportunity. Perhaps you were downsized. Whatever the reason, there are many things to do when leaving a job. Don’t neglect your 401(k) plan during this process.

With a defined contribution plan such as a 401(k) you typically have several options to consider upon separation.  Here is a discussion of several 401(k) options when leaving your job and the pros and cons of each. Note this is a different issue from the decision that you may be faced with if you have a defined benefit pension plan.

Leaving your money in the old plan 

I’m generally not a fan of this approach. All too often these accounts are neglected and add to what I call “financial clutter,” a collection of investments that have no rhyme or reason to them.

In some larger plans, participants might have access to a solid menu of low cost institutional funds. In addition, many of these plans tend to be among the cheapest in terms of administrative costs. If this is the case with your old employer’s plan, it might make sense to leave your account there. However, it is vital that you manage your account in terms of staying on top of changes in the investment options offered and that you reallocate and rebalance your account when applicable.

Unfortunately far too many lousy 401(k) plans are filled with high cost, underperforming investment choices and leaving your retirement dollars there may not be your best option.

Rolling your account over to an IRA 

This route not only allows for the consolidation of accounts which makes monitoring your portfolio easier, but investors often have access to a wider range of low cost investment options than might be available to them via their old employer’s plan.

Even for do it yourself investors, rolling over to an IRA is often a good idea for similar reasons. You will want to take stock of your overall portfolio goals in light of your financial plan to determine if the custodian you are using or considering to offers a range of appropriate choices for your needs.

Rolling your account into your new employer’s plan 

If allowed by your new employer’s plan, this can be a viable option for you if you are moving to a new job. You will want to ensure that you consult with the administrator of your new employer’s plan and follow all of their rules for moving these dollars over.

This might be a good option for you if your 401(k) balance is small and/or you don’t have significant outside investments. It might also be a good option if your new employer has an outstanding plan on the order of what was mentioned above.

Before going this route, you will want to check out your new employer’s plan.  Is the investment menu filled with solid, low cost investment options? You want to avoid moving these dollars from a solid plan at your old employer to a sub-par plan at your new company. Likewise, you don’t want to move dollars from one lousy plan to another.

Other considerations

A fourth option is to take a distribution of some or all of the dollars in your old plan. Given the potential tax consequences I generally don’t recommend this route.

A few additional considerations are listed below (I mention these here to build your awareness, but I am not covering them in detail here.  If any of these or other situations apply to you, I suggest that you consult with your financial or tax advisor for guidance.):

  • The money coming out of the plan is always taxable, except for any portion in a Roth 401(k) assuming that you have satisfied all requirements to avoid taxes on the Roth portion.
  • You will likely be subject to a penalty if you withdraw funds prior to age 59 ½ with some exceptions such as death and disability.
  • There is also a pretty complex method for those under age 59 ½ to withdraw funds and avoid the penalty called 72(t). Additionally, there are complex rules for those who are 55 and older who wish to take a distribution from their 401(k) upon separating from their employer. In either case consult with a financial advisor who understands these complex rules before proceeding.
  • If your old plan offers a match there is likely a vesting schedule for their matching contributions.  Your salary deferrals are always 100% vested (meaning you have full rights to them).  Matching contributions typically become vested on a schedule such as 20% per year over five years. You will want to know where you stand with regard to vesting anyway, but if you are close to earning another year of vesting you might consider this in the timing of your departure if this is an option and it makes sense in the context of your overall situation.
  • If your company makes annual profit sharing contributions, they might only be payable to employees who are employed as of a certain date. As with the previous bullet point, it might behoove you to plan your departure date around this if the amount looks to be significant and it works in the context of your overall situation.
  • Another factor that might favor rolling your old 401(k) to your new employer’s plan would be your desire to convert traditional IRA dollars to a Roth IRA now or in the future via the use of a backdoor Roth. There could be a tax advantage to be had by doing this, please consult with your financial advisor here for guidance tailored to your unique situation.
  • If you are 72 or older (or had been subject to required minimum distributions under the old rules prior to the SECURE Act) and still working, you are not required to take annual required minimum distributions from your 401(k) as long as you are not a 5% or greater owner of the company and if your employer has made this election for their plan. This applies only to the retirement plan of your current employer, you are subject to any RMDs that would apply to IRAs or old 401(k) plans with former employers. This might also be a reason to consider rolling your old 401(k) or even an IRA to your new employer’s plan if they accept these types of rollovers, again consult with your financial advisor.

There are a number of 401(k) options when leaving your job.  The right course of action will vary based upon your individual circumstances.  The wrong answer is to ignore this decision.

Approaching retirement and want another opinion on where you stand? Need help deciding what to do with your retirement plan when leaving a job? Not sure if your investments are right for your situation? Need help getting on track? Check out my Financial Review/Second Opinion for Individuals service for detailed guidance and advice about your situation.

NEW SERVICE – Financial Coaching. Check out this new service to see if it’s right for you. Financial coaching focuses on providing education and mentoring on the financial transition to retirement.

FINANCIAL WRITING. Check out my freelance financial writing services including my ghostwriting services for financial advisors.

Please contact me with any thoughts or suggestions about anything you’ve read here at The Chicago Financial Planner. Don’t miss any future posts, please subscribe via email. Check out our resources page for links to some other great sites and some outstanding products that you might find useful.

Photo credit:  Flickr

Roth 401(k) vs. Traditional 401(k)


I’m excited to publish the first guest post on this blog.  Joe is a personal financial blogger posting at his site www.joetaxpayer.com.  Joe was kind enough to share his thoughts on choosing between a Traditional 401(k) and a Roth 401(k) if your plan allows for this option.  Check out Joe’s Plutus Award winning blog for more excellent insights.

Today, let’s look at the differences between the Traditional 401(k) and the Roth 401(k). Similar to the Traditional IRA, the Traditional 401(k) permits you to make deposits to your account, pre-tax, and then, at retirement, withdraw money and pay tax upon withdrawal. The Roth 401(k) is similar to the Roth IRA, in that you make deposits with post-tax money, but will be able to withdraw both deposits and growth with no further taxes due after you retire.

Tax Planning Considerations

Seems pretty simple, no? Not so fast. It’s easy enough to look at your current marginal rate, which is the tax you pay on that last dollar of income. When you look at your total tax bill over your total income, you get an average rate which isn’t as useful for this analysis. The tougher thing is to know what your rate will be in retirement. Do you have a traditional pension from your current or former employer? How much have you already saved in pre-tax 401(k) accounts or Traditional IRAs? These are some of the factors you’ll need to consider when starting to think about whether to choose the Roth 401(k).

Let’s take a closer look at the numbers. In 2012 a couple, married filing joint, will have a standard deduction of $11,900 along with two exemptions of $3,800 each for a total $19,500 that comes off the top when calculating their taxable income. If they itemize, they may have a Schedule A showing higher than $11,900, but that’s the minimum this year. It then takes $70,700 of taxable income to hit the top of the 15% bracket (see chart above). Just over $90,000 per year gross income and still in the 15% bracket. If you are comfortable taking 4% per year withdrawal, it would take $2,250,000 in pretax accounts to fund the $90,000 per year withdrawal.

Saving your way to a higher bracket isn’t easy, nor is it so common. It can easily occur, however, with an employer whose pension is generous, or for those whose 401(k) is heavily invested in investments that have done very well. In such situations, using the Roth 401(k), funded with after tax dollars, will keep your pretax savings from snowballing out of control, potentially putting you in a higher bracket come withdrawal time. Even if you choose the Roth, any employer deposit remains on the traditional, pretax side.

Other Considerations

Last, it’s not just about now vs. retirement. When you change jobs you should consider rolling your 401(k) money into an IRA. During the course of your life, in any year your income is below average you should take the opportunity to convert a bit of your Traditional IRA to a Roth IRA, reporting the conversion as income, but at a lower than average bracket.

As you approach retirement, the big picture becomes more clear, and the last years before you retire can help you balance your accounts between the Traditional 401(k)/IRA and Roth flavors of these accounts. For the working couple where one spouse has retired earlier than the other, the years where a single check is coming in is the ideal time to deposit to the Roth and to convert a bit from the Traditional accounts before the larger withdrawal start to come during full retirement living.

Check out guest author Joe’s blog www.joetaxpayer.com for more great articles like this one.

Enhanced by Zemanta