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Did You Leave a Retirement Plan at a Former Job?

Center for Personal Finance editors / November 12th, 2012

Did you leave behind a 401(k), 403(b), or 457 governmental deferred compensation plan at a former job—or are you about to? If so, depending on your situation and assuming you're not ready to retire, you generally have four options for your savings. Before making any moves, contact your plan administrator. If necessary, also consult a financial or tax adviser for complete information about the rules and tax consequences.

Option 1: Leave your savings with your former employer.

You may be able to leave your retirement plan with your former employer. However, if your balance is $5,000 or less, your employer might require you to take your money. Before settling on this alternative, review your plan's investments, fees, services, withdrawal restrictions, and distribution rules. Then compare the plan with an IRA (individual retirement account), a Roth IRA and, if you have one, your new employer's retirement plan. For example, the former employer's plan might offer investments not available in an IRA, such as low-cost institutional mutual funds, funds with competitive long-term performance that are closed to new investors, or stable value funds or fixed accounts that preserve your principal. On the other hand, your current employer plan might only have limited investment options.

Option 2: Roll over your plan to a traditional IRA or a Roth IRA.

Once you've left your employer, you have the option of directly rolling over part or all of the eligible distribution from your 401(k), 403(b), or 457 governmental plan to a traditional IRA. Rolling over your plan allows your savings to continue accumulating tax-deferred. You can also roll over your plan to a Roth IRA; your rollover funds to a Roth will be taxed—but if you think your tax bracket will be higher at retirement, this might make sense. A traditional or Roth IRA may offer you a broader selection of investment options than your current or new employer-sponsored retirement plan. Specifically, IRAs allow you to invest in most types of savings and investments, including CDs/share certificates, Treasury securities, mutual funds, and individual stocks and bonds.
If you're still working, you can make new contributions to a traditional IRA or Roth IRA.
And if you have an existing IRA or other accounts, consolidating your retirement savings with one provider streamlines your paperwork, makes it easier to develop and maintain your investment plan, and simplifies your required minimum distribution calculations when you reach age 70½. A traditional IRA also may offer you and your beneficiaries more flexible and tax-favored distribution options than your employer retirement plan. Furthermore, if you're still working, you can make new contributions to a traditional IRA until age 70½. Traditional IRAs, however, don't offer loans, as may any new employer plan you have. You may also consider a rollover to a Roth IRA. The amount you convert will be taxed, but withdrawals after age 59½ are generally tax-free. To determine which IRA suits you, consult a certified financial adviser or an IRA specialist at your credit union. This calculator can give you an idea about which is a better option for you as well.

Option 3: Move your savings to your new employer plan.

If you have a 401(k), 403(b), or 457 governmental plan with a former employer, you can roll over eligible distributions tax-free to any such plan that accepts rollovers. For example, if you left your teaching job and went to work for a private company, you could roll over your 403(b) savings to a 401(k) plan that accepts rollovers. Or if you left your government job for a job with a nonprofit organization, you could roll over your 457 governmental plan savings to a 403(b) plan if your new employer has this type of plan and accepts rollovers. When considering the alternatives, compare your new employer retirement plan with your current plan and both types of IRAs. Evaluate the investments, services, withdrawal restrictions, loan provisions, distribution options, and fees.
If your balance is $5,000 or less, your employer might require you to take your money.

Option 4: Cash out and pay taxes.

As a last resort after you've left your job, you can withdraw part or all of the vested portion of your employer-sponsored retirement plan. If you do, you'll lose a significant chunk of your savings to federal income taxes, possibly state income taxes, and possibly to the 10% early withdrawal tax penalty. Your employer must withhold 20% up front as prepayment for the federal income taxes you'll owe at tax-filing time. You'll also lose out on future years of earnings and, potentially, tax-deferred growth. Make your best effort to keep your retirement savings intact and carefully consider all your other options before making this irreversible move.

Four considerations before you make any moves

  1. If you decide to roll over your employer plan savings to a traditional IRA, make sure you arrange a direct rollover to the IRA trustee or custodian to avoid triggering income taxes and possibly the 10% early withdrawal tax penalty.
  2. If you roll over your employer retirement plan savings to a Roth IRA, you will pay taxes on the funds on your next return. The amount could also force you into a higher marginal tax bracket, so your tax bill could be even more than you anticipate.
  3. Before you roll over your employer retirement plan savings to your new employer plan or to a traditional or Roth IRA, check if you'll be subject to any contingent deferred sales charges or annuity surrender fees.
  4. If you roll over your savings from one type of retirement plan to another, or to an IRA, review withdrawal restrictions: Your money becomes subject to the rules of the new plan or IRA.

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