Leaving a job can be a big transition, and, as you pack your belongings and prepare for new opportunities, there’s a valuable asset you can’t leave behind: your 401(k).
“Moving retirement money around can be complicated because there can be tax ramifications,” says Will Smayda, Southern California regional sales manager for Merrill Edge. If you accidently roll out of a 401(k) and let the money sit for 60 days without moving it again into an IRA, or, if you accidently roll your money from an IRA into a Roth IRA, you may have to pay penalties and taxes on that money.
Funds in a 401(k) account are often essential to workers’ retirement planning, and making the wrong decision when leaving a job can be costly.
“You have a short list of considerations when deciding what to do,” says John Ameriks, principal at Vanguard. There are three things you can do with your 401(k) money: keep it where it is, roll it over into an IRA, or cash it out, and each has pros and cons to consider.
Consider Fees and Expenses
“On many 401(k) statements, the fees are not disclosed,” says Ameriks. “Depending on the 401(k)’s structure, some companies pay a portion of charges or the employee may pay the charges.”
The Department of Labor is requiring 401(k) plan sponsors to disclose fees to participants starting later this year but, until that happens, experts recommend asking your employer about a plan’s fees and expenses. These cover the costs of generating tax reporting, running call centers and websites, and other administrative expenses for a 401(k) plan. Fees can get competitive depending on what your employer has negotiated and volume discounts. “Traditionally, there hasn’t been a lot of transparency with fees so you have to dig,” says Smayda.
“Every investment vehicle has a cost of running that vehicle,” says Smayda. “When you’re considering your investment options, take into account any load fees for buying mutual funds.”
The same mutual fund may have different expense ratios depending on whether it’s held in a 401(k) or IRA. Experts recommend reviewing the mutual fund's prospectus to understand a fund’s fee structure. “In a 401(k), everything has a fee associated with it,” says Smayda. If you move your 401(k) money to an IRA that’s self-directed or managed by a financial adviser, Smayda recommends understanding the fees associated with those accounts.
“It’s important for people to be on top of their retirement accounts because, in the long run, the impact of fees may be great,” says Jean Setzfand, vice president for Financial Security at AARP.
401(k)s can Have Limited Investment Options
“In a 401(k), you’re limited to what the company offers as far as investments,” says certified public accountant Barry Picker. In most 401(k) plans, participants can allocate their money among a limited menu of 10 to 15 investment choices.
“Roth IRAs and Rollover IRAs give you broader flexibility with investment choices and access to financial advice that can help you put your plan together,” adds Smayda.
Your retirement plan can help determine how to allocate your money. “Consider whether the investment options in your 401(k) plan are important to you and if they’re available elsewhere,” says Ameriks. “You have to be careful if you hold company stock in your 401(k) because there may be tax advantages to how you treat this.”
Some plans offer a stable value fund, which is a low-risk fund with guarantees provided by an insurance company or bank, according to Ameriks. “The interest rate you get will be, in general, higher than what you’d receive in a money market fund. You can’t get a stable value fund outside of an employer-sponsored plan such as a 401(k) plan.” If this investment is important to you, then he recommends staying in the plan only if the plan’s fees are reasonable.
“Most 401(k) plans have strict investment options,” he says. “If you want more choice, you should roll your money over into an IRA.”
Even if you decide to transfer your money to an IRA, you may still be able to keep those same investments. “Sometimes you can do an in kind transfer and bring all your investments into your new account to help avoid transaction costs,” says Smayda. By doing an in kind transfer, you won’t have to sell investments when you close your 401(k) only to repurchase those same mutual funds when you open an IRA, potentially paying fees for each transaction. Smayda recommends asking your 401(k) provider and company whether in kind transfers are allowed in your plan.
Your age may be a good reason to keep your money in your employer’s 401(k) plan. “Anyone who’s between 55 and 59.5 years old should leave their 401(k) money with their company,” says Picker. In general, when you withdraw money from retirement plans before the age of 59.5 years old, whether an IRA or 401(k), that money is subject to taxes and a 10% penalty, according to IRS regulations. However, if you are at least 55 years old and leave your job, you can withdraw moneys from your 401(k) plan without paying the 10% penalty.
Statements and Service
“The average professional has seven jobs at seven different companies [in a lifetime],” says Smayda. “This can turn into seven different 401(k)s with seven different investment menus.” He suggests thinking about whether you want to manage money that’s held at different institutions with individual statements, or to have one account with one statement.
If the level of detail in a statement is important to you, “401(k) reports are a lot clearer than the IRA reports from a brokerage, and performance analysis is more detailed from a 401(k) account,” says Setzfand. Although 401(k) plans do provide a high level of service, some of those services are transferable depending on the institution you choose to hold your retirement funds.
Whether or not you decide to roll over your 401(k), experts recommend keeping the money in some sort of retirement account. The compounding that happens in these accounts is integral to achieving goals for retirement savings, says Ameriks.