24 BARRON’S September 2, 2019
Thecostformakingarashdecisioncanbesteep:
unnecessarytaxes,penalties,highfees,badinvestment
decisions,andlostopportunities. By Sarah Max
Don’t Rush to
Roll Your 401(k)
THE AVERAGE AMERICAN WILL CHANGE JOBS A DOZEN
timesoverthecourseofhisorhercareer,andmost
ofthesemoveswillraisethequestion:ShouldItake
my retirement money with me, or let it be?
Manypeoplemakerashdecisions,thinkingthey
needtopackuptheirsavingswhentheycleanout
their desks. On the other end of the spectrum are
the lackadaisical types, who leave a trail of 401(k)
plans behind them with each jump to a new job.
InarecentsurveybyFinancialEngines,adivi-
sionofEdelmanFinancialServices,42%ofpeople
who left their jobs didn’t realize that leaving their
moneyintheirworkplaceplanwasevenanoption.
“Averylargeportionofworkersareunawareofall
their options, and often make choices that expose
them to risks, fees, and taxes that are otherwise
avoidable,” says founder Ric Edelman.
Herearesomecommonmistakes,fromthemost
egregious to the more nuanced.
Simply cashing out
Thereareplentyofwaysemployeescanblowiton
theirretirementsavings,butthisisthebiggestby
far—cashingoutandnotreinvestingthefundsina
qualifiedretirementplan.IntheFinancialEngines
survey, a third of respondents said they had with-
drawnmoneypriortoretirement,and41%ofthem
said they had no intention of putting the money
back into a qualified account.
“Peopledon’trealizetheincrediblecosttotheir
financialsecurity,”saysEdelman,notingthat28%
ofsurveyrespondentssaidtheyweren’tawarethat
cashing out would trigger taxes and penalties.
Thatcostincludestheimmediatetaxhit—income
taxes,plusanother10%earlywithdrawalpenaltyif
you are not yet age 59½. The longer-term issue is
thelosttax-deferredcompounding,evenforamod-
estaccountbalance:A$20,000planthataveragesa
6% annual return can grow to more than $120,000
over30years.Cashoutat$20,000,though,andyou
owe federal, state, and local income taxes, plus a
$2,000penalty,whichcouldultimatelymeanyouend
up with just $10,000.
Rolling over too many times
Among employees who don’t intend to cash out of
theirretirementaccount,mishapscanhappenwhen
they make the call to move their funds to another
plan or an individual retirement account.
Employees who decide to move their money to
another 401(k) plan or an IRA typically have two
options—transfer the funds directly to another
account, or do a rollover. Although “rollover” is a
termwidelyusedtomeanmovingmoneyfromone
retirementaccounttoanother,theInternalRevenue
Servicehasanarrowdefinition,saysEdelman.That
moneyisbestmovedfromoneinstitutiondirectlyto
another in a direct transfer. However, “if the em-
ployersendsyouthecheck,that’sarollover,”Edel-
mansays.“Youhave60daystorollthemoneyover
to an IRA or another qualified plan.”
Many people understand that if they miss that
window,they’llowetaxesandthe10%penalty.What
theydon’trealize,however,isthatthisgraceperiod
is offered only once every 12 months. “We’ve seen
people create traps for themselves because they
move their retirement money more than once,”
Edelman says.
Inmostcases,thebestbetistocheckthetrans-
fer box. “They’re simpler because the money is
moved from institution to the other, and you don’t
have to worry about the IRS limit or losing the
check,” he says.
Assuming an IRA is best
There are plenty of great reasons to move 401(k)
money into an IRA. As the word “individual” sug-
gests, these accounts aren’t linked to any one em-
ployer, and consolidating most of your retirement
moneyintoasingleaccountisgenerallytheeasiest
way to keep track of your retirement goals and
asset-allocation decisions.
Thatsaid,thisisn’tsomethingthatpeopleshould
doinhaste.Firstofall,youroldemployer’s401(k)
plan may offer you access to investment options,
tools,andinstitutionalpricingthatyoumaynotget
with an IRA. In an analysis of in-plan fees, Edel-
man’sfirmfoundthatemployeeswhokeeptheirre-
tirementsavingsinaworkplaceplanversusopening
a new IRA on their own could save more than
$4,600 on a $100,000 balance over 10 years.
Somethingelsetoconsideristhatcreditorpro-
tection of IRAs varies by state, and often isn’t as
strongasitiswitha401(k),saysDeanMioli,aCer-
tifiedFinancialPlanner,certifiedpublicaccountant,
anddirectorofInvestmentPlanningatIndependent
Advisor Solutions by SEI. Although most people
shouldn’tletconcernsaboutcreditorprotectionin-
fluence their retirement planning, professionals in
morelitigiousfields,suchasmedicineorconstruc-
tion, should factor this into the decision he says.
Overlooking other tax strategies
Althoughmostpeopleassociate401(k)planswith
pretax contributions, there may be other strate-
giestoconsiderwhenweighingamove.Oneoption
may be to convert the savings to a Roth IRA;
you’lloweincometaxesonwhatyouconvert,but
future growth and withdrawals will be tax free.
Thisisaparticularlygoodstrategytoconsiderin
ayearthatyourincomemaybelower,minimizing
the tax hit.
For employees who’ve accumulated their em-
ployer’s stock in their 401(k) plans, leaving a job
may open the door for an often overlooked tax
break.Normally,distributionsfromatax-deferred
retirement account are taxed as ordinary income.
Under the so-called “net unrealized appreciation”
break, you can opt to withdraw your employer’s
stockasshares.You’lloweordinaryincometaxon
thecostbasis—whattheywereworthwhentheyen-
teredyour401(k)—butnotonanygains.Whenyou
sell the shares down the road, you’ll owe capital-
gains tax just on the shares’ appreciation—which
couldloweryourratetozeroormaxoutat20%de-
pending on your tax bracket.
“Some rollover actions cannot be reversed or
remedied,soit’sbesttofullyconsideryouroptions
before making a decision,” Mioli says, noting that
changingjobs,likeanymajorlifetransition,canstir
up emotions and pave the way for bad decisions.
“Take a deep breath and make a rational decision
under calmer times.”
“Take a deep
breath and
make a rational
decision under
calmer times.”
Dean Mioli
Robert A. Di Ieso, Jr.