401k review with job change

What a Job Change Means to Your 401(k): Financial Advisor in Utah Gives 4 Examples

Changing jobs or plan to in the near future? If you have a 401(k) at your former (or soon to be former) company, you’ll need to decide what to do with it. Your options are:

  1. Cash it out
  2. Roll it over to a new employer plan
  3. Roll it over to an IRA
  4. Leave it where it is

Each choice has pros, cons and considerations to think about. At Rock House Financial, our financial advisors in Utah have helped clients navigate each scenario. Based on this experience, take a look at how each option plays out in real-life examples.

 

Not sure what to do with your retirement plan? Contact the team at Rock House Financial.

 

Jack Cashes Out His Plan

“Jack” celebrated getting a new job by cashing out his Traditional 401(k). He had $15,000, and access to that amount was, he felt, too good to pass up.

Individuals like Jack are often lured into a cash-out because it may seem like the easiest solution, and it can result in a lot of available money at time when you may feel you need it.

Unfortunately, though, cashing out your 401(k) early comes with significant financial drawbacks.

First, the IRS is going to levy an immediate tax penalty of 10 percent on the money. Why? Holders of 401(k)s can’t withdraw without penalty until they reach the age of 59-½ – and Jack is only 35.

Second, Jack will need to pay tax on the $15,000 in addition to the penalty. The funds will be taxed at his ordinary rate (the same rate as his salary).

Third, Jack loses the opportunity for tax-free growth of the $15,000 in the decades between now and his retirement. Tax-free growth of all appreciation and reinvestment of dividends and capital gains can significantly increase the amount over time.

Fourth, Jack is going to arrive at retirement age without the nest egg that the $15,000 (and its appreciation) could have provided. This could jeopardize a comfortable retirement.

Cashing out a 401(k) is almost never a good move financially. And the decision cannot be undone, since you can’t put that money back into a retirement plan later if it’s more than the annual limit. Talk to a financial advisor before deciding to cash out a retirement plan. For more on what this looks like, read our recent blog post: What an Early Withdrawal from Your Retirement Fund Really Means.

Susan Rolls Her Plan Over to Her New Employer Plan

“Susan” knows the drawbacks of cashing out her plan early and therefore, decides to roll her Traditional 401(k) funds over to her new employer’s plan. First, she reviews the features of the new plan versus the old one, making sure that it is at least comparable and maybe better! These features include investment options, a company match, and fees and charges. (These elements can be difficult to understand. If you want help reviewing your new plan, contact us. The team at Rock House Financial is here to help!)

Second, Susan touches base with the new plan administrator to make sure they allow rollovers. She and her financial advisor obtain the proper paperwork to roll the funds over within 60 days, since the funds will be subject to the 10 percent penalty and tax if they aren’t rolled over within that period.

Susan will continue to reap the benefits of her 401(k): Pre-tax contributions that lower her tax burden, tax-free growth and a nest egg when she reaches retirement age. The funds will be taxed at her ordinary rate when it is withdrawn. She can withdraw without penalty once she turns 59-½.

Michael Rolls His Plan Over to an IRA

“Michael” learned that his new employer doesn’t offer a 401(k), so he checks with his old employer to see if he can leave it where it is. Unfortunately, they require a minimum of $5,000 in the account to continue to administer it, and he only has $3,000 saved.

Fortunately, Michael sees the value of continuing to hold and grow his retirement funds. He is currently 30 years old, and realizes that the $3,000 can be a nice nest egg when he reaches retirement age.

He chooses to open a Traditional Individual Retirement Account (IRA) and roll the 401(k) over into it. He works with a financial advisor to choose his investment options and to make sure that the rollover is completed within 60 days. (Again, rollovers must be completed within 60 days to avoid taxes and penalties.)

Michael can contribute up to $6,000 of after-tax money to the IRA every year, and can deduct the money on his tax return. Like a 401(k), IRA funds grow tax-free until they are withdrawn at retirement. They’ll be taxed at his ordinary rate when they are withdrawn. He can withdraw funds without penalty at age 59-½.

Debbie Leaves Her Plan Where It Is

“Debbie” was excited to hear that her new employer does offer a 401(k) plan. But as she and her financial advisor review the investment options and fees, she realizes that her old employer’s plan actually has more complete options and lower fees. Both can maximize the growth of her 401(k) funds.

Debbie’s former employer allows funds to remain in the plan as long as they meet a $10,000 maximum. Debbie has saved $100,000 in her plan, so can definitely leave it with her former employer. She completes the necessary forms to do so.

Leaving her 401(k) funds where they are has many positives, such as continuing the tax-free growth until retirement.

But the chief drawback is that Debbie needs to manage the funds so that she can access them upon retirement. This means making sure she receives steady communications from the former company’s plan administrator. If Debbie moves, for example, she will have to update her contact information and make sure they have received the updates.

Debbie will need to start taking Required Minimum Distributions (RMDs) from all traditional retirement accounts when she hits age 72. The plan administrator can set up the RMDs, but they must have her contact information to do so. If the contact information they have is no longer valid, Debbie may lose out on the funds!

Debbie is 45, and unlikely to lose track of her 401(k) funds. But it’s not uncommon for younger people to forget about old plans, when they work for a company for just a short period of time at the beginning of their career. They may not even realize they have retirement funds (if the company automatically sets it up) and therefore, don’t keep track of them. Retirees who suffer memory loss may also find it challenging to keep track.

It’s important to work with a financial advisor who reviews and monitors all your retirement accounts.

Debbie’s new employer also offers a 401(k) with a 100 percent match. Debbie enrolls in that plan as well, aware of the benefits. She can contribute up to $19,500 per year of pretax income. When she turns 50, she can contribute an additional $6,500 every year. These contributions will grow tax-free until she withdraws them.

(For other financial planning tips “Debbie” may be able to take advantage of, check out our new guide: Financial Planning for Women in Utah.)

What Should You Do?

Deciding what to do with a 401(k) when you change jobs isn’t simple. There are pros and cons to think about, and your own situation to consider. If you’re looking for a financial advisor in Utah and are concerned about your job change and how it affects your 401(k), let’s talk. A no-obligation conversation can go a long way.

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Case studies presented are purely hypothetical examples only and do not represent actual clients or results. These studies are provided for educational purposes only. Similar, or even positive results, cannot be guaranteed. Each client has their own unique set of circumstances so products and strategies may not by suitable for all people. Please consult with a qualified professional before implementing any strategy discussed herein. 

No portion of these case studies is to be interpreted as a testimonial or endorsement of the firms’ investment advisory services.