When you leave your employer — whether you’re taking a new job, you’ve been laid off, or you’re retiring — you have to decide what to do with the assets in your 401(k) plan. Everything you contributed to the plan and any earnings those contributions produced belong to you. If you’re vested, which means you were employed long enough to qualify, you’re also entitled to any contributions your employer made to your account.
Roll with it
If you’re changing jobs, you may be able to roll over your assets to your new employer’s plan. But that’s not always possible or preferable, since you may have to wait until you qualify to participate in the new plan, or the investments the plan offers may not be as strong as those in your existing plan.
You can always have the balance transferred directly to a rollover IRA or ask for a check and deposit the money yourself into an IRA within 60 days. Remember, though, that in the case of an indirect rollover, your employer is required to withhold 20% of the total you intend to move. However, you can keep the entire amount tax deferred by using money from savings or another source to deposit the full amount including the 20% that was withheld.
Rollover advocates say that choosing an IRA gives you greater control over how your assets are invested and how you eventually take your required distributions.
Whatever your reason for leaving, you may be able to leave the money in your former employer’s plan, provided the balance is at least $1,000. You also have the right to roll over the assets to an IRA. If you’re retiring, you may choose one of the payout options your employer’s plan offers, such as an annuity or periodic payments.
Cashing in
There’s one thing you don’t want to do: take the cash and spend it. You’ll owe income tax on the total amount plus a 10% penalty if you’re younger than 59 1/2. Even worse, the tax-deferred status of your assets will disappear, and your retirement savings balance will drop to zero.
Employer’s call
Your former employer may cash out your account in what’s known as an involuntary distribution if your balance is less than $1,000 and you leave no instructions. If the balance is larger than $1,000 but less than $5,000, the employer has the right to refuse to maintain your account. If you haven’t left instructions for what you want to happen to the money, the account balance must be rolled over to an IRA that the employer selects and you must be notified.
Traditional 401(k) to Roth IRA
You can roll assets from a traditional 401(k) directly into a Roth IRA, provided your modified adjusted gross income (MAGI) is less than $100,000 for the year you do the rollover. You’re not eligible, though, if you’re married and file your federal income tax returns separately. If you choose this option, the deferred taxes are due for the year you do the rollover.
