Congratulations, you’ve landed a new job! In addition to finding a new lunch spot and ordering new business cards, add this to your must-do list: Figure out what to do with your old 401(k).
As long as your account has more than $5,000 in it, you’ll have four options of what to do with your money. Making the right decision is crucial, given that the 401(k) is the only retirement savings vehicle for 42 percent of American workers, according to Fidelity.
Here’s what you know about each one:
1. Cash out. In general, this is not the best long-term financial move. “If you really need the money, cashing out a 401(k) would be a last resort,” says Christine Benz, director of personal finance at Morningstar.
If you take money out of your plan now, you’ll have to pay taxes on it, and if you’re under the age of 59 ½, you’ll also have to pay an early withdrawal penalty.
The average worker changes jobs 12 times over a 30-year career, so making a habit of cashing out your retirement accounts could leave you without much of a nest egg. Plus, compound interest could make even small amounts worth a lot more. An account with a $2,500 balance, for example, would be worth more than $10,000 after 30 years, assuming a conservative 5 percent return.
Even if you’re past 59 1/2, it is still a good idea to keep your money in a 401(k). If retirement is more than a few years away, you’ll be better served hanging on to the tax benefits that come with one.
2. Leave it where it is. As long as you have more than $5,000 in your account, you can leave your money in a 401(k) plan administered by your former employer. (If you account balance is below $5,000, you generally have 60 days to decide what to do with the money before your former company can liquidate it.)
Leaving your money where it is can be a good option if your previous plan had lower fees and better investment options than your current plan. If you’re over age 55, you can also make withdrawals from a 401(k) with a former employer without paying a 10 percent penalty, although it’s not always the best financial move to do so early.
The downside of leaving your money with your former employer is that you will have one more account to monitor, rebalance, and keep track of. “Don’t leave your account there if you change jobs often,” says Greg McBride., chief financial analyst at Bankrate.com “You don’t want to end up with a trail of old 401(k)s that you have to keep track of.”
3. Roll it into your new 401(k). If your new plan has low fees and good investment options, rolling your old account into this one can help streamline your accounts and make it easier to manage your retirement savings. “A lot of times people just really like to have everything all in one place,” says Sarah Walsh, vice president of retirement solutions at Fidelity.
Another benefit to rolling money into your new 401(k) for older workers is that after age 70 ½ you can defer making required minimum withdrawals from an account associated with a company at which you are currently employed.
If you’re not further from retirement, you’ll want to compare the cost of your current and former plan to decide where to keep your money. Use the comparison tool at FeeX to see how your current and former plans stack up in terms of fees, and how they compare to your IRA options. Ideally, you want to invest in funds with fees that are below 1 percent, higher fees can stunt the growth of your balance by as much as 30 percent.
Often your new company will have a waiting period, for 401(k) rollovers, so you may not be able to move transfer your money until 60 days or so after you’ve started working. “The other problem with rolling money over to your new 401(k) is that if at some point you decide that you don’t like it anymore, the money is pretty much stuck there until you change jobs,” says Tony Webb, a senior research economist with the Center for Retirement Research at Boston University.
4. Roll it into an IRA. If you’re not impressed with the investment options in either your old 401(k) or the one offered by your new employer, you can take the money from your former plan and put it into an IRA of your choosing. More than half of affluent investors planned to roll their 401(k) money into an IRA this year, according to a February study by Cogent Reports.
Putting the money into a 401(k) essentially gives you access to any investment you’d like to make, while the typical 401(k) plan limits participants to about 25 investment options, according to research by BrightScope. “There are a lot of investment choices, and that’s a good thing for people who know what to do with those choices,” says Brooks Herman, head of data and research at Brightscope. “It’s not so good for people who don’t know how to make those choices for themselves.”
Some IRAs have no fees at all, while some of the more complicated investments have extremely high fees, so be sure to shop around before signing on with a bank or brokerage house to open your IRA. In general, fees for IRA tend to be 15 to 30 basis points higher than fees in a 401(k), according to a recent Government Accountability Office report.
It’s worth noting that 401(k) plans tend to have better protections against creditor than IRAs, so if you think you might file for bankruptcy or face legal battles, it may be smart to keep as many assets as possible out of an IRA. IRA participants (unlike 401(k) owners, are also required to make minimum withdrawals after age 70 ½. If you won’t need money then, or plan to still be working, you might be best served by sticking with the 401(k).