How to Make the Most of Your Old Retirement Account
Changing jobs is a great thing to celebrate! New opportunities and exciting challenges are ahead, but for many people, handling a so-called “orphan 401k” is now on the to-do list, as well.
Your 401k plan is one of the most sound and strategic ways to build your retirement savings. It’s offered by many employers, and about 60 million Americans take advantage of this opportunity. If you’re one of them—congratulations! You’re well on your way. If you’ve been contributing to your retirement account faithfully, you definitely don’t want to leave that hard-earned money in limbo.
It’s tough to know how to proceed with your former investments when there’s a new employee-sponsored 401k account to contribute to—but fear not. These tips and best practices can help make sure you can maximize your retirement savings in the short and long term.
Know Your Options
After you’ve switched jobs, you have several options when it comes to handling a 401k that you can no longer contribute to. The four main paths are:
- Rolling your plan over to your new account
- Cashing it out
- Rolling it into an IRA
- Leaving it with your old employer
Each option has its pluses and minuses, some more than others. Here’s what you need to know.
Leaving Your 401k With Your Old Employer
If you have more than $5,000 saved up, you could potentially leave your account with your former employer, but there are some big drawbacks to this strategy.
First and foremost, you can no longer put any money into this account. Whatever you’ve saved is what will stay there. If you do want to keep investing, you’d have to enroll in your company’s new 401k account, which means having to manage more than one 401k at once, each with their own statements and requirements.
Secondly, there are often additional fees that you’ll incur. Since you are no longer an employee, you may be charged a higher plan administration fee. You may also have to pay service and maintenance fees depending on how your account is set up.
That said, there are a few scenarios that might make it worth it, say if you are a big fan of your former company’s investment options or if they have a lot of personalized professional guidance. Beyond that, it’s likely time to consider some other places to invest your retirement funds.
Rolling Your 401k Plan into Your New Employer’s Plan
Rolling your orphan 401k funds into your new employer’s plan is usually a better option than leaving it with your former employer. It can give you more control over your investments and consolidate your money into one central account.
But even considering those benefits, it may not be the soundest strategy for you. A 401k, by design, usually has limited investment opportunities—around 30 or so—which doesn’t give you many chances to customize your plan. And most 401k accounts rely heavily on mutual funds, which can offer limited growth potential.
Make sure you do your research into your new employer’s 401k offerings and weigh the pluses and minuses. You definitely don’t want to agree to a plan that doesn’t work as well for you as your previous one. Also, consider that usually there’s a new employee waiting period, on average about six months, during which you won’t be allowed to contribute to your new 401k.
Cashing Out Your 401k
Because trying to figure out what to do with your orphan 401k can be a bit complicated, it’s tempting to think about just cashing out your account and starting fresh. The biggest reason to resist that urge, however, is that you’ll face a 10% penalty if you try to cash out your 401k before you hit 59.5 years of age. Once you factor in additional costs like federal and state taxes, you could be facing a 40% loss on your investment.
Turning Your Orphan 401k Into an IRA
There’s one stand-out option left to consider: turning your orphan 401k account into an IRA. This option comes out on top for many reasons, namely, because you won’t be limited by your previous employer’s rules about where, when, and how to invest your retirement funds.
An IRA account gives you much more freedom when making investment choices, but depending on the structure of the account, may have higher fees than a workplace 401(k). You should fully understand the cost structure versus the benefits you’ll gain. If you have an IRA, you can get started right away—there’s no waiting period to contribute. There is a cap on how much you can put into this account yearly—$6,000 for 2022, or $7,000 if you’re age 50 or older—but you can put it into your account on the day you open it if you’d like.
How to Navigate an IRA Account
It’s worth noting that there are two main types of IRA accounts: a traditional IRA and a Roth IRA. The biggest difference between them are tax rules. A Roth IRA means your investments are taxable today, but you won’t pay taxes when you withdraw. A traditional IRA is the opposite—the money you put into your account isn’t taxed until you choose to withdraw it.
No matter which IRA account you choose, setting one up shouldn’t take up too much of your time. When considering which path to take, consider management fees, transaction costs, any commission price, and other contingencies, which can vary greatly.
Once you’ve made your decision, just fill out the necessary paperwork and you can get your account up and running. The next step is to get in touch with your old employer to transfer the funds directly into your IRA, and then all you have to do is choose the right mix of investments for your needs.
Is an IRA the Right Move for Your Orphan 401K?
For many people, opening an IRA will be a savvy financial move. Of course, there’s no one-size-fits-all strategy. It can feel like a lot to consider, but utilizing a financial advisor can help you understand which option is best for your bottom line. At Resolute, we offer personalized service with your goals in mind. If you’d like to schedule a conversation, please reach out to us today. We look forward to hearing from you!