Whether you are accepting a new position in a different company, leaving the corporate environment to pursue another calling, or have been laid off, it’s important to figure out what to do with your 401k from your old employer. If you’ve been with your old employer for many years, this can be thousands of dollars that can grow to fund your retirement.

A recent study by Capitalize (they specialize in 401K rollovers), found that there is a whopping 24.3 million forgotten 401K accounts totaling $1.35 trillion in assets. This means that there are individuals out there who are losing out on almost $700,000 in lost retirement income because they have forgotten to roll over or monitor their old accounts.

In the rush and busyness of transitioning to a new opportunity, it’s easy to forget your 401k. Remember though this is YOUR money and you want to steward it so that it has the potential to grow even further.

Accumulation of 401k

I have been fortunate enough to work for companies that provided 401K Plans with matching contributions. My average tenure at these 3 companies was around 3 years, enough for me to also receive the vested match and some company stock.

What I learned over the years as you switch jobs is that you will likely encounter the need to decide what to do with your old 401K a few times. In this post, we will outline the four options for your old 401K accounts. Regardless of which option you choose, make it a part of your transition to either have a plan in place or a calendar reminder to do something about your 401K. Generally, you have around 60 days to make a decision before your old company makes one for you.

The 4 Options

There are 4 options when it comes to your 401K from your old employer. We will go through each option in depth below.

• Cash Out 

• Leave it where it is (at your old employer’s plan if it allows)

• Roll it over to your new employer’s plan (if it allows)

• Roll it over to an IRA

While you are figuring out what to do, I encourage you to do the following

1. Sign-up right away for your current employer’s new retirement plan. This ensures you receive matches right away and you get your investments started.

2. Investigate your new employer’s plan: speak to someone in your new company to help you find the best investment. Knowing what’s in your new plan can help you decide if it’s worth transferring to the new plan or to an IRA instead.

Option 1: Withdraw and cash out the account

It can be very tempting to withdraw this money from your 401K account, but keep in mind that this money has been allocated specifically for retirement by IRS rules and thus has specific withdrawal requirements. Withdrawing it too early (before retirement age or without a hardship reason) will mean you pay a penalty. In addition, the majority of contributions towards 401ks are pre-tax so you will have to pay taxes on the withdrawal. This means that even though you have a sizeable balance in your account, after paying the penalty and the taxes, you may not have much left in the end. 

Option 2: Leave it at your old employer’s plan if it allows

The next option is to leave it at your old employer’s plan if it allows. This option will depend on the balance of your account.

• If you have less than $1,000 in the account, your former employer will likely cash it out for you and write you a check for the balance. This action does trigger federal and state taxes where applicable and a 10% early withdrawal penalty if you are under age 59½. If that happens, you will need to deposit the check into your new employer's 401(k) plan or into an IRA within 60 days of receiving it to avoid paying taxes and the penalty.

• If you have less than $5,000 in your former employer’s 401(k) plan, your old employer may force you out of the plan. A big reason for this is that your employer does not want to continue paying the administration fees to provide the benefit to a non-employee. If this is the case, your old company will roll your old 401K into an IRA.

• In both of these cases, you will receive notices to take action before action is taken for you so be on the lookout for those letters and emails.

• If you have over $5000 and your employer allows you to stay in the plan, you can choose to do so, but you want to make sure that the investment options within the plan are as good or better as your other alternatives. Keep in mind that if you decide to keep your account in your old employer’s plan, if you end up changing jobs every few years, you may start to accumulate various retirement accounts. With too many accounts it can be easy to lose track of investments left in previous plans which may hurt your balance in the end.

Option 3: Roll it over to your new employer’s plan if it allows

If you’ve reviewed your new employer’s 401K Plan and have spoken to a Benefits Administrator and have found that the new plan has more options for you, then you can check to see if you are able to transfer your old 401k to the new 401K. 

If you decide to roll over an old account, it’s best to opt for a direct rollover. Many brokerage platforms support electronic transfers so this should be easy to do between plan administrators. You’ll need to fill out some paperwork to make this transfer happen, but it’s generally very easy.

Once you’ve submitted the paperwork, just make sure to verify and follow the money to ensure that everything is where it should be and the transfer has been completed.

Option 4: Roll it over to an IRA

Most (but not all) work 401Ks have limited investment choices and are often loaded with high expense fees. If this is the case with your new employer’s plan, it may be time to rollover your 401K to an IRA. 

With this option, you would roll over the balance of your 401K to a traditional IRA at a reputable low-fee brokerage firm like Vanguard , Fidelity, Charles Schwab, or M1 Finance.

The primary benefit of an IRA rollover is access to a wider range of investment options. More options do mean you’ll need to do a bit more work to find the right investment for yourself and your goals. It may also mean you’ll need more time managing the account, but at least everything is in one place and you have a historical and wider view of your investments. 

There are three types of 401(k) rollovers you can do if you decide you’d like to roll your money into an IRA:

• A rollover from a traditional 401(k) to a traditional IRA - taxes will be deferred until withdrawal age.

• A rollover from a traditional 401(k) to a Roth IRA – you’ll owe taxes on the rolled-over amount. Roth retirement accounts are funded with after-tax dollars, while traditional 401(k)s are funded with pre-tax dollars. Once you make the conversation, any earnings that accumulate will be eligible for tax-free withdrawal, as long as your Roth IRA has been open for at least five years and you are at least 59½ years old.

• A rollover from a Roth 401K to a Roth IRA – you won't incur taxes because both are post-tax accounts.

As you roll over these accounts, please keep in mind that rolling it over isn’t enough. Once the cash transfers, you have to buy investments within your account.

What About Employer Stock?

There is a special case for employer stock within your 401k. It’s worth mentioning here especially if you have a large amount of stock or have a significant gain. There is a special tax strategy you can take on for publicly traded stock in your former company. This strategy is called NUA - Net Unrealized Appreciation and it can save you a significant amount of tax savings. This strategy is only available when you do the rollover process and there’s a particular order you must complete in order to make this transaction valid. Basically, the NUA strategy takes advantage of capital gains tax rates instead of income tax rates. There’s more information in this video.