What Happens to Your 401(k) When You Leave a Job?

You’ve worked hard and put your pennies into your 401(k) over the years and maximized your employer match. But now you’re moving on to new opportunities, so what happens to that money? And what happens if you’re still paying on a 401(k) loan when you turn in your two-week notice? You have several options for handling your money, depending on your situation and your future plans. Explore the consequences of each option to avoid losing any of your hard-earned money.

You’re moving on, but your 401(k) doesn’t have to. You may be able to leave your money where it is even if you leave your job. It’s an easy option because you don’t have to do anything. But it’s not for everyone. If you leave your 401(k) behind, you run the risk of forgetting it completely and losing out on that money. Investment options tend to be pretty limited on those employer-controlled plans. You may be able to make more money off your investments on your own.

Your investment amount plays a role in whether or not your company lets you keep your 401(k) where it is. With a balance of $5,000 or more, the company can’t make you cash out or roll over the money. If the balance is less than $1,000, your former company can cut you a check, essentially forcing you to cash it out. You can either keep that money and pay taxes on it or put it into another retirement plan. Balances between those amounts fall into a gray area in which the company can force you to move the money or let you keep it there.

Heading to a new company? You can take your 401(k) from a previous employer with you. After you start your retirement plan with your new company, you can move the balance of your plan from your former employer into it. It requires a little work on your part, but you have all of your retirement savings in one spot, so it’s easy to manage.

Some plan administrators can deposit the balance directly into the new plan. Another option is to request the balance as a check, which you can put into your new plan. Make sure the deposit happens within 60 days, or you’ll have to pay taxes on the amount.

If you’re not impressed with your new employer’s retirement plan options, you retire or go freelance, you have the option to roll over the money into an IRA. This option is similar to rolling the balance over into your new employer’s plan. You can either have the administrator deposit it directly into your IRA or request a check, which you deposit within 60 days.

You have the option to take the money from your 401(k) without putting it into a different retirement account, but this option comes with financial penalties you should consider. When you keep the cash, it becomes taxable income, so you’ll lose a chunk of it to income taxes. You may get moved up to a higher tax bracket, too. If you’re under the age of 59½, you also owe the IRS a 10 percent penalty.

Plus, you lose out on that money since you’ll probably spend it long before you reach retirement age. Leaving the money in some type of retirement fund helps you avoid paying taxes and penalties while letting the investment grow. As tempted as you may be to have a big chunk of money right now, it’s usually best to keep it in some type of retirement account.

You may qualify to start taking distributions from your 401(k) when you leave an employer, even if you go to work for another company. After reaching age 59½, you’re eligible to take distributions without IRS restrictions. If you’re still working, your plan may have restrictions on taking distributions.

If you don’t meet the minimum age requirement and are still working, you can only take 401(k) distributions for hardships. If you retire before you turn 55, you can take distributions, but you’ll face the 10 percent penalty. It’s a good idea to talk to your financial adviser before taking distributions to understand the financial implications of doing so.

You may have gotten in a tough financial situation, so you decided to take out a 401(k) loan, a loan that you pay back plus interest while you’re working. But a loan with an outstanding balance can cause a tricky financial situation if you leave, whether by choice or by force.

When you leave your job, you’re supposed to pay back the loan in full. If you still owe a lot of money, that’s probably not financially possible. Even if you’re leaving for a better-paying job, you won’t have a lump sum available to pay the loan immediately.

If you can’t pay back the 401(k) loan in full, it’s considered an early withdrawal. That means the unpaid amount is subject to taxes and penalties. The amount you still owe on the loan goes on your taxable income for that tax year. Instead of paying interest to yourself on the loan payments, you’ll have to pay taxes on the outstanding balance. You also have to pay the 10 percent penalty for withdrawing the money early. It can cause you to lose a big chunk of your money.

Your first instinct may be to turn to your employer for 401(k) advice, but employers can’t legally give you specific advice. You can call the administrator of your plan, but it’s in the company’s best interest to keep the money with them. Don’t expect to receive impartial information.

Since each situation is different, it’s best to meet with a financial adviser about your specific circumstances. The adviser can look at factors such as your age, the balance in your account and the potential financial implications of the different options. Ask how different options might affect your taxes if you’re considering a withdrawal.