The Great Resignation is real as employees resign from their jobs in record numbers. According to the latest figures from the U.S. Bureau of Labor Statistics, 4.5 million Americans called it quits in November 2021.
But what should you do with your 401(k) retirement savings plan when you quit?
Offered by many employers, the plan comes with tax advantages. With a 401(k), a percentage of each of your paychecks is automatically paid directly into an investment account. Your employer may match part or all of that contribution. Employees may choose from several investment options, usually mutual funds.
“Typically, a 401(k) plan goes dormant when an employee leaves a job. The money is still there, but it is no longer managed or invested,” says Jake Oyler, a financial advisor with Colwyn Investments. “What you do with that 401(k) will depend on your next steps. If you’re moving to a new employer, sometimes you can transfer the old 401(k) funds over to your new 401(k) plan.”
Below are tips on how to handle your 401(k) when you leave your job.
“The first option is to do nothing. Typically, if your 401(k) is over a certain amount, you can leave the 401(k) with your previous employer. Sometimes this is not recommended as you may not have as much flexibility, but it is the easiest option,” says Brooke Cantrell, an associate financial planner at Windsor Wealth.
Roll it over
Whenever you move jobs, you need a plan for your retirement plans (including 401(k), 403(b), and others),” says Jay Zigmont, founder of financial planning firm Live, Learn, Plan. “To maintain control and possibly lower fees, you should consider doing a direct transfer rollover to an IRA [Individual Retirement Account] of any existing retirement accounts.”
By doing a direct transfer rollover, the check will be made to where you are moving your account, rather than directly to you.
“This is important as your old 401(k) will be required to withhold taxes and possibly a penalty if the check is addressed to you,” notes Zigmont.
It’s important to make sure your rollover IRA matches your 401(k). “Wherever you are moving, your IRA should be able to help you make sure you have the right type of rollover account,” says Zigmont.
You can roll it over to a traditional or Roth IRA if your 401(k) was Roth.
“This allows much more flexibility in your investment options as you could roll it into the IRA held at almost any institution,” Cantrell points out. “This would be a good option if you want to invest in more individual stocks since typically 401(k) ’s hold mutual funds. The disadvantage of this option is that you may encounter larger fees.”
There is another way to go when you are rolling over your 401(k).
“For many people, rolling over your 401(k) to an IRA is the best choice,” suggests Gaurav Sharma, CEO and co-founder of Capitalize, a financial platform that helps people to roll over their retirement accounts. “An IRA is simpler to manage: You can open one independently, and it isn’t tied to an employer. It also means that you get to pick an IRA provider that has low fees and suits your needs versus being forced to whatever plan your employer provides.”
What not to do
When you leave your job, “what you shouldn’t do is take out the funds from your 401(k) and use it as spending money. This is not a good idea because you still have to pay taxes on the funds that you receive, and the money you are spending could be used for emergencies,” explains Diana Simpson of the financial advice platform Finance + Freedom. “The best choice is to save money and use it wisely.”
It is also not advisable to take a lump-sum distribution. “If you take this route, the distribution will be considered ordinary income, and if you are under the age of 59 and a half, then you will also pay a 10 percent penalty as well,” Cantrell advises.