The job landscape has drastically changed over the past few decades. Long gone are the days of staying with one employer for the entirety of your career. In fact, the current median tenure for employees is only about four years, demonstrating a marked shift in how people view work and their career trajectory in this day and age.
As a result of frequent job changes, many mid-career workers have at least a couple of old 401(k) accounts floating around. However, while moving on and up every half decade or so might be good for your pocketbook, it can become somewhat confusing keeping track of multiple retirement accounts.
Luckily, it’s now easier than ever to take your retirement accounts with you by rolling them over. And you have several options, too. Read on to learn more about your options and how to roll over your 401(k) accounts when you leave your job.
What Is a 401(k) Plan?
Before diving into rollovers and your options when you leave a job, let’s go over some 401(k) basics.
A 401(k) plan is a tax-advantaged account offered by businesses to help eligible employees save money for retirement. Employees who choose to participate in the plan can contribute to their personal 401(k) account, and employers can make matching contributions.
However, all yearly contributions combined can’t exceed the annual contribution limit. For 2023, the annual limit for most people is $22,500. However, if you’re at least 50 years old, you can contribute an additional $7,500 in “catch-up” contributions, for a total of $30,000.
There are two types of 401(k) accounts: traditional 401(k) accounts and Roth 401(k) accounts. The main difference between the two is when you pay taxes on the money in the account.
Traditional 401(k) Accounts
With a traditional 401(k) account, contributions to the account aren’t treated as taxable income, so you don’t pay income taxes on the money in the year it goes into the account. Instead, funds in the account grow on a tax-deferred basis, and withdrawals are subject to ordinary income tax in the year you take money out of the account.
YATI Tip: If you expect to be in a lower federal tax bracket once you retire, deferring taxes with contributions to a traditional 401(k) account can save you money. Instead of paying taxes while you’re still working at a higher rate when you put money in the account, you can wait to pay them at a lower rate when you withdraw money from the account in retirement.
In addition to any income tax due, money taken out of a traditional 401(k) account before you turn 59½ years old is generally subject to a 10% early withdrawal penalty (although there are exceptions). Once you turn 59½, there’s no penalty, but distributions are still taxed as ordinary income.
When you turn 73, you generally must begin taking a certain amount of money out of a traditional 401(k) each year. These withdrawals are called required minimum distributions (RMDs). Beginning in 2033, RMDs won’t be mandated until you turn 75.
However, there’s an important exception to the RMD rules for people who continue to work past age 73. Unless you own at least 5% of the company, you can delay RMDs from a 401(k) account if you’re still working for the employer sponsoring the 401(k) plan.
Roth 401(k) Accounts
Contributions to a Roth 401(k) account are included in a worker’s taxable income. However, once that money is in your account, it grows tax-free and no taxes are due when you withdraw the funds in retirement.
With a Roth 401(k), you can withdraw your contributions at any time without having to pay tax or the 10% early withdrawal penalty. However, income tax and the 10% penalty generally apply to earnings taken out of the account if you aren’t 59½ years old or the account isn’t at least five years old.
Currently, RMDs from a Roth 401(k) account are generally required when you turn 73. However, starting in 2024, RMDs will no longer be required from Roth 401(k) accounts.
What Is a 401(k) Rollover?
A 401(k) rollover is when you take money from a 401(k) and move it into another tax-advantaged retirement account, such as an individual retirement account (IRA) or another 401(k) account.
Once you withdraw funds from an old 401(k) account, you have 60 days to put that money into another retirement account. If you miss the 60-day deadline, you will have to pay taxes on the money.
Instead of receiving a check yourself, you can have the money transferred directly into the new account. That will save you the hassle of trying to comply with the 60-day rule.
What to Do With Your 401(k) Plan After Leaving a Job
Staying with the same employer for your entire career is a thing of the past. But what should you do with your retirement accounts when you leave a job? The good news is that you have several options when it comes to your old 401(k) accounts, each of which has advantages and disadvantages.
When you leave a job, you can:
- Do nothing and keep your 401(k) account with your former employer’s custodian and plan
- Roll over assets into a traditional or Roth IRA
- Transfer the money to your new employer’s plan
- Cash out your 401(k) and pay taxes
Let’s take a closer look at each of these options and why they might be right for you.
YATI Tip: If you have $5,000 or less in a 401(k) plan when you leave a job, you should reach out to your employer proactively if you want to remain invested in the plan. Otherwise, they might automatically distribute the funds to you directly (if $1,000 or less) or roll over the money into an IRA (if between $1,001 and $5,000).
1. Keep Your Former Employer’s 401(k) Plan
The simplest option is to keep your money right where it is. Aside from requiring the least amount of effort, here are a few reasons why you might opt to keep your money in your former employer’s plan.
The old 401(k) plan is better than your new plan (if you even have one)
One very good reason to keep your money with your former employer’s 401(k) plan is if the options with your new employer are inferior—or worse, your new job doesn’t offer an employer-sponsored retirement plan.
Not all retirement plans are created equal, and some employers offer better investment choices, larger matching contributions, or fewer fees for plan management. This isn’t to say you shouldn’t start a new 401(k) account with your new employer, but you might not want to move previously invested money if your former employer’s plan is superior. Similarly, if your new 401(k) plan options are comparable, it might not be worth the effort to roll over your old 401(k).
If it doesn’t make sense to move your money, simply let it sit and grow in your former employer’s 401(k) plan. After all, money in separate accounts with similar rates of return will grow at the same rate as if the money was all in one account. So, there isn’t really a reason to consolidate unless the new plan is superior or you simply want the convenience of having your money all in one place.
Steady performance with your old 401(k) plan
Building on the first point, if you’ve got a winning portfolio through your former employer that has steadily outperformed the broader market, why change if it doesn’t add to your overall investment performance?
While past performance doesn’t necessarily guarantee future returns, it’s a great indicator of future performance over the long run. So, if you’re doing well with your old 401(k) plan, stay the course and keep that money in your former employer’s retirement plan.
Similarly, you might want to leave your money where it is if you’re now self-employed. While self-employed people can open a solo 401(k) or Simplified Employee Pension IRA (SEP IRA), it can take time to build up enough business to contribute anything substantial to them. In this case, it might be better to let your old 401(k) plans sit and grow.
You plan to retire early
A 10% early withdrawal penalty typically applies if you take money out of a retirement plan before you reach 59½ years of age. This comes into play with both 401(k) plans and IRAs.
However, if you plan to retire early or will otherwise need some of the money in your old 401(k) plan before you reach that age, keeping your money in place could preserve access to an exception to the penalty rules.
If you separate from your former employer’s service in or after the year you turn 55, distributions taken from your 401(k) plan aren’t subject to the 10% penalty. In other words, if you leave your job when you’re 55 or older, but not yet 59½, you can take money out of your old 401(k) plan without paying the 10% fee.
You owe money to creditors or expect to file for bankruptcy
You might also choose to leave your money in a former employer’s plan due to certain legal protections. Although there are some exceptions, funds in a 401(k) plan are generally protected under federal law from claims by creditors or other people you owe money (including in bankruptcy).
In contrast, legal protections for IRAs are generally based on state law, which can vary from one state to another. IRAs are protected in bankruptcy under federal law, but even then, IRA assets over a certain amount ($1,512,350 until April 1, 2025) aren’t protected if you file for bankruptcy.
2. Roll Over Your 401(k) Into an IRA
When starting a new job, another course of action is to roll over your 401(k) account from your former employer’s plan into a traditional or Roth IRA. There are, of course, pros and cons to this type of rollover.
On the one hand, your money will continue to grow tax-deferred if it’s in a traditional IRA or tax-free if it’s in a Roth IRA. You can also consolidate several retirement accounts into one IRA to make it easier to keep track of your retirement savings. Furthermore, with an IRA, you’ll likely have access to investment options not available in your employer’s 401(k).
YATI TIP: Investment options for 401(k) funds are typically limited. You’ll usually have a list of mutual funds (including target-date funds), and on rare occasions, a few exchange-traded funds (ETFs) to choose from. However, with an IRA, not only will you have access to mutual funds and ETFs, but your investment choices often include stocks, bonds, money market funds, certificates of deposit (CDs), and more.
On the flip side, you can’t borrow against an IRA like you can with a 401(k). Additionally, some of the high-performing investments offered in your 401(k) might not be available in an IRA, and you might pay additional fees. Furthermore, legal protections from creditors are weaker for IRAs than for 401(k) accounts, and RMDs will be required from a traditional IRA even if you’re still working when you turn 73 (RMDs aren’t required for Roth IRAs).
Need Help Rolling Over a 401(k) Account to an IRA?
Capitalize offers the easiest way to move your old 401(k) by helping you to choose an IRA and handling all the paperwork on your behalf—for free.
A rollover through a service like Capitalize will move your money into your own account, allowing you to easily keep track of your assets through a new IRA opened with brokerages like Charles Schwab, Betterment, and Vanguard.
Visit Capitalize to learn more about how to roll over old 401(k) plans for free.
Rolling over to a traditional IRA vs. Roth IRA
There are two types of IRAs: traditional IRAs and Roth IRAs. As with traditional 401(k) accounts, taxes on money put in a traditional IRA are deferred until you withdraw the money. Likewise, as with Roth 401(k) accounts, you pay tax on contributions to a Roth IRA in the year you put money into the account, but withdrawals are generally tax-free.
If the account with a former employer is a traditional 401(k) account, you can roll it over into either a traditional or Roth IRA. However, if you move the money to a Roth IRA, you’ll owe taxes on the amount transferred for the tax year that the 401(k) rollover is completed.
If you have a Roth 401(k) account, you can only roll over the funds into a Roth IRA. However, no taxes will be due at that time.
Direct rollovers vs. indirect rollovers
There are two basic ways to transfer your money from a 401(k) plan to an IRA: a direct rollover or an indirect rollover.
With a direct rollover, the 401(k) plan administrator either forwards your money directly to the IRA provider financial institution. It can also send you a check that’s made payable to the IRA. No taxes are withheld with a direct rollover. Contact your 401(k) plan administrator for details and instructions.
If you opt for an indirect rollover, you’re sent a check made payable to you. It’s then your responsibility to deposit the entire amount that was in your 401(k) into an IRA—but you only have 60 days to do so. If you miss the deadline, the withdrawal from your 401(k) plan is treated as a regular distribution subject to taxes and penalties.
The 401(k) administrator must also withhold 20% for income taxes from indirect rollovers. However, you still must deposit the full amount withdrawn from the 401(k) plan into an IRA to avoid taxes and penalties. As a result, you’ll have to come up with that 20% out of your own pocket for the deposit (although you’ll get it back later when you file your tax return for the year).
YATI Tip: In some cases, an indirect rollover might be your only option. However, when a direct rollover is available, we highly recommend going this route. Not only is it the easiest option, but you can avoid potentially negative tax implications and temporary out-of-pocket costs.
3. Roll Over Your 401(k) to Your New Employer’s Plan
A popular option for consolidating your retirement accounts is to roll over a 401(k) account with a previous employer to your new employer’s 401(k) plan. However, not all employers will accept a rollover from a previous employer’s plan, so it’s important to check with your new employer before pursuing this option.
Rolling over to a traditional 401(k) vs. Roth 401(k) account
A traditional 401(k) account with a previous employer can be rolled over into a traditional 401(k) account with a new employer. You can do so through either a direct or an indirect rollover, and no taxes or withholding are required.
YATI Tip: A traditional 401(k) account can only be rolled over into a Roth 401(k) account if you’re doing so within the same employer’s plan.
If you have a Roth 401(k) account from a former employer, it can be rolled over into a Roth 401(k) sponsored by your current employer. No taxes or withholding are required with this type of rollover. However, it must be done as a direct rollover. If an indirect rollover is attempted, contributions to the account (as opposed to earnings) can’t be rolled over to a new employer’s Roth 401(k), but it can be rolled over into a Roth IRA.
Benefits of rolling your 401(k) into your new employer’s plan
There are many benefits to this option, first and foremost being the ability to keep most or all of your money in one place. Consolidation makes it easier to see how your portfolio is performing, but the following benefits are also available:
- Your money can continue to grow tax-deferred or tax-free.
- Your new plan might offer lower-cost or better investment options.
- You continue to enjoy enhanced protection against creditors.
- You can defer RMDs beyond age 73 if you continue working.
Drawbacks to rolling over your 401(k) into your new employer’s plan
While there are typically more benefits than drawbacks to rolling over money in a former employer’s plan to your new employer’s plan, watch out for these potential drawbacks:
- You might have fewer or less attractive investment options with your new plan.
- There might be more fees associated with managing your new account.
4. Cash Out Your 401(k) and Pay Taxes
The last option for your old 401(k) accounts is to cash them out and use the money for whatever you want. While this option might seem appealing, there are some major drawbacks.
For example, withdrawals that are eligible for rollover to another 401(k) or an IRA are subject to 20% withholding. Furthermore, a cash-out can also be classified as an early distribution if you’re younger than 59½ years old, so you could face early withdrawal penalties.
You’ll also lock in any losses incurred when you pull money out of your 401(k) plan. Especially during a market downturn, pulling funds out of an old 401(k) account could significantly hinder your ability to recoup any losses and impede your retirement plan for years to come. Even if the market is strong, pulling funds out before retirement will hamper your ability to benefit from compounding, which can also negatively impact your overall retirement savings.
As you can see, there’s a high price to be paid for cashing out a 401(k) and accessing your retirement funds early. While it’s always an option, it’s usually not the best option for an old 401(k) account with a former employer.
Which Rollover Option is Best for You?
Now that you know your options for an old 401(k), which is best for you?
As with most things, your best choice will depend on your situation and goals. For most people, a direct rollover of an old 401(k) into a new 401(k) plan will be the best option. This way, all your 401(k) money is in one place, making it easy to manage and track your progress.
For those without a 401(k) plan at their new job, or with inferior investment options or higher fees with their new 401(k) plan, consider rolling your money into an IRA or simply letting the money sit where it is.
Whatever you choose, keeping your money invested in some investment vehicle will be your best bet for staying on track for retirement. As tempting as it might seem, refrain from cashing out money from an old 401(k) unless absolutely necessary.
Otherwise, what to do with your old 401(k) will likely come down to personal preference and the options available to you in your new plan. If you’re still not sure which route to take, consider talking to a financial advisor to discuss your options and what might be best for your situation.