New Job, Old Savings: What to Do With Old Employer Retirement Plans
One of the more common questions that often arises when someone leaves their job is what should they do with their previous retirement plan. When deciding what to do you have several options: take a cash distribution for the entire balance, keep it where it is, roll it over into your current employer’s retirement plan, or roll it into an IRA account.
Cash it out
Taking a cash distribution for the entire balance isn’t such a hot idea. Any amount you withdraw will be taxed at your marginal tax bracket. If you are under age 59 ½, you can tack on an additional 10% penalty, so you should think twice before considering this option. If a single taxpayer with $100,000 of taxable income took a $100,000 cash distribution from their retirement plan, they would report $200,000 of taxable income for the year. This would move them from the 24% marginal tax bracket to the 32% marginal tax bracket. Additionally, they would have to report $10,000 in additional penalty tax if under age 59½ and lose out on the growth of that money over the rest of their career.
Leave it where it is
Assuming the former employer will allow you to stay in the plan, if you like the investment options your old plan offers, leaving your money where it is will allow you to continue with that investment strategy. However, some employers require a minimum account balance to keep assets in the plan. Plus, your withdrawal options may be limited once you are no longer employed and actively contributing to the account.
Move it into your current employer's plan
One benefit of rolling over the plan into your existing job’s plan is the ability to take a loan if needed, which is not available in IRA accounts or a previous employer’s plan. The maximum amount a participant may borrow from his or her plan is 50% of his or her vested account balance or $50,000, whichever is less. For simplicity, transferring old retirement plan assets to your new one could make it easier to track your retirement savings.
Because of their size, larger plans may offer less expensive share classes than would be available in an IRA or a smaller plan. Each plan sends participants a fee disclosure statement which lays out all of the costs of the plan so a careful review will help you determine if your current or former employer’s plan is less expensive. While cost is a major factor you should also look at the different investment options available between the current and former employer’s plan, to see if they are limited in one versus the other. Many retirement plans also offer specialized money-management services with competitive fees that you may wish to maintain.
Roll it into an IRA
An IRA generally offers access to a wider variety of investment options compared with typical employer plans to invest in. For do it yourself investors that want more control and flexibility to manage their investments, or if they prefer the services of a professionally managed account tailored to their specific needs by an advisor, the IRA may be the way to go. IRAs also allow you to take a penalty-free withdrawal for first-time home purchases, medical expenses or qualified education expenses. Consolidating all of your old retirement plan accounts into your IRA can make your financial life much simpler since it cuts down on the number of accounts and statements you need to track. One downside is that IRAs also offer less creditor protection under federal law than 401(k) accounts.
One major pitfall if you decide to roll over the plan is to make sure it is not paid directly to you. This starts a timer of 60 days from the date of distribution before you have to put the money back into a retirement account. Failure to meet this time threshold means you pay income taxes on the full distribution, plus the 10% early withdrawal penalty if under age 59 ½. There’s an exception to the penalty if you were 55 or older at the time of separation, but you would still owe income taxes. Instead any rollover should be done as a trustee to trustee rollover where there is no time limit (the distribution check can still go to you, but it would be made payable to a third party custodian instead).
So, if you are considering moving on to a new job – or have already made the move – review all of your options to make an informed decision about what to do with the retirement funds you left behind.
*If you are considering rolling over money from an employer-sponsored plan, such as a 401(k) or 403(b), you may have the option of leaving the money in the current employer-sponsored plan or moving it into a new employer-sponsored plan. Benefits of leaving money in an employer-sponsored plan may include access to lower-cost institutional class shares; access to investment planning tools and other educational materials; the potential for penalty-free withdrawals starting at age 55; broader protection from creditors and legal judgments; and the ability to postpone required minimum distributions beyond age 70½, under certain circumstances. If your employer-sponsored plan account holds significantly appreciated employer stock, you should carefully consider the negative tax implications of transferring the stock to an IRA against the risk of being overly concentrated in employer stock. You should also understand that Commonwealth and your financial advisor may earn commissions or advisory fees as a result of a rollover that may not otherwise be earned if you leave your plan assets in your old or a new employer-sponsored plan and that there may be account transfer, opening, and/or closing fees associated with a rollover. This list of considerations is not exhaustive. Your decision whether or not to roll over your assets from an employer-sponsored plan into an IRA should be discussed with your financial advisor and your tax professional.
Presented by Carl Holubowich, CFP®