What to Do with Your ‘Orphan 401K’ Retirement Account When You Leave Your Job
By now, you’ve probably heard the latest employment term to hit the American lexicon: the “Great Resignation.” It refers to significant shifts in the workforce brought about by the pandemic. Many people lost their jobs due to COVID-19, of course, but many others chose to pursue new opportunities or leave the workforce altogether. One consequence is that many of these workers now face the so-called “Orphan 401(k)” dilemma. That is, what to do with your employer-sponsored 401(k) savings when you leave your job.
The one thing you don’t want to do, of course, is nothing. Simply abandoning your old retirement account could mean leaving a lot of potential growth on the table. Below, we’ll discuss four possible options and how to navigate them if you find yourself in this position.
Option 1: The Cash Out
Choosing to simply cash out your old 401(k) puts a lump sum of money in your hands – which may be important to you if you’ve experienced financial difficulties during the pandemic. However, it comes at a cost. Specifically, you’ll pay income tax on the full distribution amount, plus an early withdrawal penalty of 10% if you’re younger than 59 ½. If you’re considering this option, think about whether you really need to cash out the full amount. Leaving some of your existing funds in the account means a portion of your money can continue to grow – and benefit from compounding.
Option 2: Keep Your Orphan 401(k) With Your Former Employer
It’s possible that you’re feeling satisfied with your former employer’s investment options and any associated fees. If so – and if they permit it – you can choose to simply leave your old 401(k) where it is. This is the path of least resistance, though there are some considerations. For instance, your former employer can choose to cash you out of their plan if your balance falls below $1,000. If your balance is under $5,000, they can automatically move it to a rollover IRA unless you take action to stop it. And, importantly, though you can no longer contribute to the plan, you’ll still have to maintain it by knowing how to reach the plan sponsor and fulfilling any needed paperwork if you move, change your name, or need to update your beneficiary designations.
Option 3: Rollover to Your Current Employer
A direct rollover into your current employer-sponsored account can help you avoid both taxes and penalties. It’s also a great way to increase your account balance with more investable dollars quickly. If you like your current employer’s investment options – and you won’t be paying higher fees – this can be a savvy move. However, not all employers allow rollovers, so it’s important to learn whether this is an option for you. If yours does, there will be paperwork involved, but it’s usually straightforward.
Option 4: 401K Rollover to an IRA
As with a rollover to your new 401(k), you can also choose to roll over an Orphan 401(k) into an Individual Retirement Account (IRA) and avoid taxes and penalties with the direct rollover option. Opening a rollover IRA with a financial services provider you’re already using for other accounts can be beneficial because you’ll have everything in the same place.
If you don’t have an existing provider you’d like to use, we can help! Arbor Capital can assist with constructing your financial plan and implementing a strategy that suits your needs, including a rollover IRA.
How to Determine the Best Option for You
When you’re trying to determine the best strategy for your Orphan 401(k), look at the big picture. Depending on your unique situation, there could be risks and benefits associated with each. As you navigate the options, it’s important to consider this asset through the lens of your overall retirement goals. You should evaluate the potential tax and fee consequences of any move you make, too.
Want a Professional Opinion? We Can Help!
At Arbor Capital, we’ve been working with many clients who joined the “Great Resignation” and then had to determine a strategy to maximize their Orphan 401(k) accounts. While the four options discussed above may be relevant, the truth is that every client’s situation is unique. That’s why we provide customized advice based on your personal needs and goals.
If you’d like assistance in thinking through your Orphan 401(k) options, or any aspect of your financial planning, reach out to us today. We look forward to getting to know you and answering any questions you may have about our services.
