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When you get a new job, there may be many things you will completely forget about your previous employer.
Just make sure your 401 (k) plan is not one of them.
While you may have options for how to manage that retirement savings, there are situations where the decision is made for you if you do not act – and that may not be in your best interest.
“It’s best to take care of this in the first few months of the transition to a new job,” said Haley Tolitsky, a certified financial planner at Cooke Capital in Wilmington, North Carolina.
As part of the so-called Great Resignation, workers have quit their jobs at almost record highs in search of better opportunities in a tight labor market. With an unemployment rate of 3.6%, companies have had to compete for talent by either raising wages or expanding their employment pool.
Nearly 4.4 million Americans quit their jobs in February, according to the latest data from the U.S. Department of Labor. That is about 100,000 more than in January and close to the record of 4.5 million set in November.
While not everyone has a 401 (k) plan or similar retirement plan in the workplace, those who have should know what happens to their account when they leave a job and what the options are – and are not.
Here’s what you need to know.
Leave the money or move it?
One thing you can do is leave your retirement savings in your former employer’s plan, if allowed. Of course, you can no longer contribute to the scheme or receive any employer contribution.
But while this may be the easiest immediate choice, if available, it may lead to more work in the future.
Basically, it can be difficult to find old 401 (k) accounts if you lose track of them. Incidentally, there is pending legislation in Congress that would create a “lost and found” database to make it easier to locate lost accounts.
“It’s really common,” Tolitsky said. “People are moving to a new job, they have changes in life, they forget it, and 10 years later they are not even sure who [the 401(k)] was with or who the provider was. “
Also, be aware that if your balance is low enough, the plan may not let you stay in it even if you want to. If the balance is less than $ 1,000, your plan can pay you out – which can lead to a tax bill and a fine.
“If you can avoid it, you do not want to pay out your 401 (k),” said Kathryn Hauer, a CFP with Wilson David Investment Advisors in Aiken, South Carolina. “If you do it with a traditional 401 (k), it means you’ll probably pay a 10% tax penalty.”
Your second option is to transfer the balance to another eligible pension plan. It could include a 401 (k) with your new employer – provided the plan allows it – or an individual pension account being transferred.
Please note that if you have a Roth 401 (k), it can only be transferred to another Roth account. This type of 401 (k) and IRA involves contributions after tax, which means you do not get a tax deduction in advance, as you do with traditional 401 (k) plans and IRAs.
However, Roth money grows tax-free and is untaxed when you make qualified withdrawals along the way.
Although all the money you put into your 401 (k) is always yours, the same cannot be said of employer contributions.
Earning plans – how long you have to stay in a company for its matching contribution to be 100% yours – vary from immediate to up to six years. Any unearned amounts are generally forfeited when you leave your business.
Among 401 (k) plans that allow participants to borrow money, about 13% of savers had a loan against their account by 2020 with an average debt of $ 10,400, according to Vanguard research.
If you leave your job and have not paid off the borrowed funds, there is a good chance that your plan will require you to repay the remaining balance fairly quickly; otherwise, your account balance will be reduced by the amount due and considered as a distribution.
In short, unless you are able to come up with that amount and put it in a qualifying retirement account, it is considered a distribution that may be taxable. And if you are under 55 when you leave the job, you pay a 10% fine for early retirement. Workers who leave their company when they reach that age are subject to special withdrawal rules for 401 (k) plans – more on that below.
If it is initially considered a distribution, you have until Tax Day the following year to replace the loan amount – ie. if you were to leave in 2022, you have until April 15, 2023 to come up with the funds (or Oct. 15, 2023, if you file an extension). Prior to major tax law changes that went into effect in 2018, participants only had 60 days.
About a third of employer plans allow former employees to continue paying the loan after they leave the company, according to Vanguard. This makes it worthwhile to check the policy of your plan.
Reasons to pause
There’s something called the Rule of 55: If you leave your job in or after the year you turn 55, you can take impunity from your current 401 (k).
If you move the money to an IRA, you generally lose the opportunity to print the money before the age of 59 without paying a fine.
Additionally, if you are the spouse of someone planning to transfer their 401 (k) balance to an IRA, be aware that you would lose the right to be the sole heir to that money. With the workplace plan, the beneficiary must be you, the spouse, unless you sign a dispensation that allows it to be someone else.
When the money lands in the rollover IRA, the account owner can name any recipient without the consent of their spouse.