See You Later Alligator! But don’t forget about your 401(k)

It’s estimated that most people will have 12 jobs during their lifetime. With roughly half of employers offering a 401(k) or a similar employee funded retirement plan, it might seem like figuring out what to do with an old 401(k) would be a priority but it’s often overlooked. In fact, as of 2021, there were more than 24 million “forgotten” 401(k)s, with an estimated worth of about $1.35 trillion. While it’s a big number in aggregate, sometimes the individual account can seem like small dollars that don’t deserve our attention. However, over the long haul, and especially with multiple lingering 401(k)s, leaving those 401(k)s behind can cost you significantly in retirement. This is why it’s important to understand your options for an old 401(k) and, if you have more than one, why it might be better off to consolidate them into a rollover IRA.

There are a few options when it comes to your 401(k) after you leave your job: cash out, leave it with your old employer, roll it over into an Individual Retirement Account (IRA), or roll it over into a new employer’s plan. Let’s look at each option.

Cashing out

While it may seem like a quick fix, cashing out your 401(k) can have some serious consequences. For one thing, you’ll have to pay taxes on the money you withdraw. And if you’re under the age of 59½, you’ll also be hit with a 10% early withdrawal penalty. Even if you avoid those penalties, you’re still likely to get less money than you would have if you had let your 401(k) stay invested .

Leaving it with your old employer

Leaving your 401(k) with your old employer is an option, but it’s not usually the best one. You’ll likely have limited investment options and you may be subject to higher fees than you would be if you moved your money elsewhere. If your balance is less than $5,000, your old employer might even force you to cash out. Lastly, if you plan to or have recently switched jobs more than once, you may leave behind a trail of 401(k) accounts at previous employers. These accounts then become your responsibility (and headache!) to keep track of.

Rolling it over into an Individual Retirement Account (IRA)

Rolling over your 401(k) into an IRA can be an alternative to leaving your 401(k) with an old employer. There are some good reasons to consider an IRA, including:

• You can choose to invest in a wider range of stocks, bonds, and other assets.
• You may be able to lower your investment fees by consolidating your accounts.
• You can consolidate all previous 401(k) plans in one place.
• You’ll have more control over when you take distributions from your account. With a 401(k), you typically can’t access your money until you retire. With an IRA, you may be able to take penalty-free withdrawals for certain expenses, such as higher education costs or a first-time home purchase.
• You may be able to roll over your 401(k) into an IRA even if you’re still working. This can be a good way to consolidate your retirement accounts and better understand your overall investment strategy.

Read more about if this approach is best for you in our previous blog In Your Best Interest.

There are two ways to roll over your 401(k) into an IRA: direct transfer and 60-day rollover. With a direct transfer, the money is transferred directly from your old employer’s plan to your IRA. This is the easiest way to roll over your 401(k), but not all employers allow it. With a 60-day rollover, you withdraw the money from your old employer’s plan and then deposit it into your IRA within 60 days. If you don’t deposit the money within 60 days, you’ll be subject to taxes and penalties on the money as if you had simply cashed it out.

Rolling it over into a new employer’s plan

If your new employer offers a 401(k) or another retirement plan, you may be able to roll your old 401(k) over into the new plan. This can be a good choice if you like the investment options in the new plan and you want to keep your money in one place. However, there are some considerations. For one, you may not be able to roll over all your old 401(k) funds. It’s generally also best to wait until you’re vested in your new employer’s plan before rolling over your old 401(k). Vesting typically occurs after you’ve been with a company for at least a year. Once you’re vested, you won’t have to pay taxes or penalties on the money you roll over. Additionally, if you leave your new job before vesting, you may have to pay taxes and penalties on that money.

The Bottom Line

There’s a lot to consider when it comes to your old 401(k) plan. You can cash out, leave it with your old employer, roll it over into an IRA, or roll it over into a new employer’s plan. Each option has its pros and cons, so be sure to consider all of your options carefully before making a decision. At Treehouse Wealth Advisors, we’re here to help you figure out if rolling over your 401(k) is right for you. Download our retirement plan rollover infographic to learn more.