Leaving Your Employer, What Should You Do With Your Previous Retirement Account?

I recently read an article highlighting a Gallup’s Millennial report which showed 21% of Millennials (born 1980-1996) have changed jobs in the last year. For comparison, that is 3x the number of non-millennials. Which prompted me to reflect upon many recent conversations with my clients regarding maximization of the options available from your previous employer’s retirement plan. Because of my experience as a financial consultant, and a current Certified Financial Planner (CFP), I wanted to provide the most common 4 options and general pros & cons of each choice.

Key Takeaways

• It is reported that 21% of Millennials have changed jobs in the last year. For context, that is 3x the amount for non-millennials
• The 4 common options to consider for your previous retirement account as you leave your employer are: Leave it with your former employer, move it to a current 401k, rollover to an Individual Retirement Account (IRA) or cash out your retirement account
• With each option there are pros and cons to consider. Before you decide on what to do with your previous retirement account, consult a certified financial advisor so you can select the best option for you

Disclaimer

The contents of this article are for educational purposes only. They are not intended to be a source of professional financial advice. You will find experts on financial planning, financial management, and real estate here. More on disclaimers here.

Option 1: Leave it with your former employer

If your former employer allows it, you may be able to leave your retirement account with them. This option can be convenient, as you won't have to move the funds elsewhere. However, you won't be able to make additional contributions to the account, and you may have limited investment options.

Here are some pros and cons to consider if you decide to go with this option.

Pros

• Convenience. Leaving your retirement account with your former employer can be convenient, as you won't have to move the funds elsewhere. This can be especially beneficial if you are unsure where you want to move the funds, or if you don't have another retirement account set up yet.
• Familiarity. If you were happy with the investment options and fees of your former employer's retirement plan, leaving your account there can be a good option. You will be able to continue investing in the same funds and with the same provider.
• Protection. Depending on the plan, leaving your retirement account with your former employer may offer additional legal protection. For example, some plans may offer protection from creditors.
• Avoid early withdrawal penalties. If you are under age 59 1/2 and need to access the funds in your retirement account, leaving the funds in your former employer's plan may allow you to avoid early withdrawal penalties.

Cons

• Limited investment options. Depending on your former employer's plan, you may have limited investment options compared to other retirement plans or individual retirement accounts (IRAs). This can limit your ability to diversify your investments and potentially earn higher returns.
• Fees. Your former employer's retirement plan may have higher fees than other retirement plans or IRAs. This can eat into your returns over time and reduce the amount of money you have available for retirement.
• No new contributions. If you leave your retirement account with your former employer, you won't be able to make new contributions to the account. This can limit your ability to save for retirement over time.
• Harder to keep track. If you have multiple retirement accounts, leaving your account with your former employer can make it harder to keep track of your overall retirement savings strategy. This can make it more difficult to ensure you are on track to meet your retirement goals.

Option 2: Move it to a current 401k

If your new employer offers a retirement plan, such as a 401(k), you may be able to roll over your previous retirement account into the new employer's plan. This can be a good option if you like the investment options and fees of your new plan. However, it is important to note that some plans may not accept rollovers.

If you decide to go with this option, here are some pros and cons to consider.

Pros

• Consolidation. By moving your retirement account to your current 401(k) plan, you can consolidate your retirement savings in one place. This can make it easier to keep track of your retirement savings and manage your investments.
• Access to potentially better investment options. Your current 401(k) plan may offer better investment options than your previous employer's plan. Moving your retirement account to your current plan can give you access to these potentially better options.
• Potential lower fees. Your current 401(k) plan may offer lower fees than your previous employer's plan. Moving your retirement account to your current plan can reduce the fees you pay, which can improve your overall investment returns over time.
• Simpler beneficiary designation. If you have multiple retirement accounts, consolidating your savings in your current 401(k) plan can simplify the beneficiary designation process. You will only need to name beneficiaries for one account.

Cons

• **Limited investment options.**Your current 401(k) plan may have limited investment options compared to other retirement plans or individual retirement accounts (IRAs). This can limit your ability to diversify your investments and potentially earn higher returns.
• Employer contributions. Your previous employer's plan may have offered employer contributions, such as a matching contribution. Moving your retirement account to your current plan may mean giving up these contributions.
• Plan rules. Your current 401(k) plan may have different rules than your previous employer's plan. For example, your current plan may have different contribution limits or a different vesting schedule.
• Tax implications. Depending on the type of retirement account you are moving, there may be tax implications to consider. For example, moving funds from a traditional IRA to a 401(k) plan may result in a tax bill.

Option 3: Rollover to an Individual Retirement Account (IRA)

You can also roll over your retirement account to an individual retirement account (IRA). This new retirement account can give you more investment options and potentially lower fees. It can also make it easier to keep track of your retirement savings, especially if you have multiple retirement accounts. However, you should note that you may need to pay taxes on the funds if you roll them over to a traditional IRA.

Here are some pros and cons to consider if you're thinking about going with this option.

Pros

• More investment options. An IRA typically offers more investment options than a 401(k) or other employer-sponsored retirement plan. This can give you greater flexibility to customize your investment strategy and potentially earn higher returns.
• Lower fees. IRAs often have lower fees than 401(k) plans or other employer-sponsored retirement plans. This can reduce the overall cost of your retirement investments and improve your long-term returns.
• More control. With an IRA, you have greater control over your retirement savings than you would with a 401(k) or other employer-sponsored plan. You can choose the investment options that are best suited for your goals and risk tolerance, and you can adjust your investments as needed.
• More flexibility. An IRA can provide greater flexibility in terms of distributions and contributions than a 401(k) or other employer-sponsored plan. You can choose when to take distributions and how much to withdraw, and you can contribute to an IRA even if you don't have access to an employer-sponsored plan.

Cons

• No employer contributions. If you're rolling over a 401(k) or other employer-sponsored plan to an IRA, you will lose access to any employer contributions or matching funds that you were receiving.
• No loans. You cannot take a loan from an IRA like you can from some employer-sponsored plans. This can limit your ability to access your retirement savings in an emergency.
• Early withdrawal penalties. If you withdraw funds from an IRA before age 59 1/2, you will typically face an early withdrawal penalty of 10% and will be subject to paying income tax at your ordinary tax rate. This penalty can be waived in certain circumstances, such as for certain medical expenses or first-time home purchases.
• No creditor protection. In some cases, an employer-sponsored retirement plan may offer greater creditor protection than an IRA. This can vary depending on state laws and other factors, so it's important to consult with a financial advisor or tax professional.

Cash out your retirement account

Cashing out your retirement account when you leave your employer can be tempting, but it's generally not a good idea. If you cash out your retirement account before reaching age 59 1/2, you will likely be subject to a 10% early withdrawal penalty in addition to any income taxes you owe. This can significantly reduce the amount of money you receive from your retirement savings.

Here are some pros and cons to consider:

Pros

• Immediate access to cash. Cashing out your retirement account gives you immediate access to cash, which can be helpful if you have immediate financial needs or unexpected expenses.
• No debt. If you have outstanding debt, such as credit card debt or a mortgage, cashing out your retirement account can help you pay off that debt.
• No need to manage investments. Cashing out your retirement account means you won't have to worry about managing your investments or monitoring the performance of your retirement account.

Cons

• Taxes and penalties. Cashing out your retirement account before age 59 1/2 typically results in a 10% early withdrawal penalty, in addition to income taxes on the amount withdrawn. This can significantly reduce the amount of money you receive from your retirement account.
• Lost opportunity for growth. Cashing out your retirement account means you miss out on the potential growth of your investments over time. This can have a significant impact on your retirement savings and may mean you need to save more in the future to make up for the lost funds.
• No retirement savings. Cashing out your retirement account means you won't have any retirement savings. This can be a significant problem in the long term, especially if you don't have other sources of retirement income.
• Temptation to spend. If you have immediate access to cash, you may be tempted to spend the money on non-essential items instead of using it for important expenses or saving for the future.

Final Thoughts

These are general explanations of different plans and options, for your unique situation it may be prudent for you to have a conversation with a financial advisor. With that said, in most situations because of the tax penalty and taxation involved, it not advisable to take the money as cash.

When deciding if you should leave it there, roll over to another plan or move to an Individual Retirement Account (IRA) the main questions to consider are: Do you have the time, interest, or ability to manage your own money?

If yes, then rolling over generally becomes the recommendation. If no, then it becomes a question of which fees are you currently paying and what may be the difference if you decide to move the account.

I hope this insight has been helpful to you. If I can provide you with additional information for your unique financial investments, please don’t hesitate to get in touch with me here.

Bay Street Capital Holdings

Bay Street Capital Holdings is an independent investment advisory, wealth management, and financial planning firm headquartered in Palo Alto, CA. They manage portfolios with the goal of maintaining and increasing total assets and income with a high priority on managing total risk and volatility. Although many advisors may focus on maximizing returns, they place a higher priority on managing total risk and volatility.

Bay Street was founded by William Huston after 13 years of supporting the United States' largest retirement plan ($650B) Thrift Savings Plan. He was recognized as Investopedia’s Top 100 Financial Advisors for 2021. In California, only two black-owned firms out of nineteen firms received this recognition.

In Scottsdale Arizona, Ekenna Anya-Gafu CFP, AAMS is recognized among the Best Financial Advisors for his responsiveness, friendliness, helpfulness, and detail. Bay Street was founded to advocate for diverse and emerging fund managers and entrepreneurs. In 2021, Bay Street was selected as a finalist out of over 900 firms across the US in the category of Asset Manager for Corporate Social Responsibility (CSR).

Sources

https://www.investopedia.com/ask/answers/102714/how-are-ira-withdrawals-taxed.asp

https://www.ameriprise.com/financial-goals-priorities/retirement/what-to-do-with-your-401k-plan-when-you-change-jobs

https://www.investopedia.com/articles/personal-finance/112315/what-happens-401k-after-you-leave-your-job.asp

https://www.indeed.com/career-advice/starting-new-job/what-to-do-with-401k-after-leaving-job

https://www.annuityexpertadvice.com/401k-when-you-quit-or-fired/