If you’ve changed jobs throughout your career, chances are you have at least one or two 401(k)s with former employers. If you’re like most people, you’ve probably been unsure about what to do with that money and just left it in the plans. Now that time has passed and your financial decisions are more deliberate, you may be ready to determine the fate of those old 401(k)s. You have four basic options:
1. Leave your 401(k) exactly where it is
Doing nothing can be a conscious and very practical decision. Just because you can’t contribute to a former employer’s 401(k) doesn’t mean you have to take your money out of the plan. If you’re satisfied with the investment options and account performance, you aren’t required to make a move. If, however, you forget to monitor the account and you’re an “out of sight, out of mind” type person, then keeping your money with a former employer may not be the most suitable—and profitable—choice for you.
2. Rollover the money to your new employer’s 401(k) plan
There’s a lot to be said for consolidating your accounts, especially when you don’t have much time to manage your money. Having fewer account statements and balances to check makes it easier to keep track of your progress toward your retirement goals and monitor your asset allocation. And you’re more likely to make necessary changes promptly.
Before you attempt to move money into your current employer’s plan, check to be sure that the plan accepts rollovers. If it does, take a good hard look at the current plan’s investment offering. Is the core menu limited or is the range of choices broad enough to support proper diversification? Having a broad core investment menu is always important for a balanced, efficient portfolio, but it becomes even meaningful in the case of consolidated assets.
3. Rollover the money into a traditional IRA
Most of my clients choose this option and roll money into a new IRA rather than another 401(k) plan. They find that an IRA provides additional flexibility and control by allowing them to shop for investment options, including those with lower fees. When clients ask me if it’s risky to move into an IRA, I tell them that the answer depends on the type of investment they buy. If they’re investing their IRA in a short-term bond fund, then there’s very little risk; however, it’s a completely different story when their choice is an aggressive growth fund.
An easy way to execute a rollover is to open a new IRA account with a financial advisor or financial services company and have your 401(k) plan administrators transfer the funds directly to that new account. Direct rollovers escape the mandatory 20% tax withholding. If a plan administrator sends a check to you, you can enjoy the same tax advantages by having the check made out to your IRA account trustee or custodian (and not to you).
4. Spend the money
As a financial adviser, I always counsel my clients against selecting this option. When you withdraw money from qualified retirement accounts, you sacrifice the opportunity for tax-deferred growth of your savings, increase your current tax bill, and jeopardize your future financial security. That’s a long list of cons and I cannot think of one pro.
It’s best to earmark 401(k) money for retirement and resist the temptation of withdrawing it or taking a loan to meet immediate needs. People get into trouble when they don’t have a source of emergency funds and have to turn to their retirement plans if they lose a job, have an uninsured medical problem, or face other unforeseen financial emergencies. It’s prudent to have a source of emergency savings you can tap in an instant to cover at least six months of living expenses.
There’s a lot to consider when it comes to making decisions about your older 401(k) accounts. Take the time you need to make a thoughtful decision and consider consulting a financial professional for information and personalized advice. A one-size-fits-all solution doesn’t exist. The right decision is the one that’s right for your individual situation.