December 22, 2016
If you have recently moved to a new job, or one of your 2017 resolutions is to make a move, I want you to be super smart with how you handle your retirement savings account you built at your old job.
Please promise me you will avoid making any of these 4 costly job-hopping mistakes.
1. Cashing out your retirement savings. Once you leave a job you have the right to cash out your 401(k) account. I have seen this happen all too often, especially with younger adults who maybe have “just” $5,000 or $10,000 or so saved. They look at that money and think about what it could buy today: a wardrobe refresh, a car down payment, a great vacation before the new job starts.
This is such a colossally bad move. If you spend that money now, you’ve squandered money you will need in retirement. And what an opportunity cost! If you leave $5,000 growing for 35 years and earn a 5% annualized return your account will be worth more than $27,000.
2. Leaving the Money With Your Old Employer. If your 401(k) account value is at least $5,000, you will likely be allowed to keep the money in your ex-employers plan. That’s not necessarily smart.
You know that your investment options in the 401(k) are limited to the funds offered in your plan. Unless you are rock-solid sure that the funds offered charge super-low fees, I recommend moving your money. You are allowed to do what is called a 401(k) Rollover: your money is moved from your ex-employers plan, into your own personal Individual Retirement Account (IRA).
Once the money is in your own IRA you have complete freedom to choose among the cheapest no load mutual funds and exchange-traded funds (ETFs.) Brokerages such as TD Ameritrade, Vanguard, Fidelity and Schwab all offer lineups of low-cost funds and ETFs, and they all are eager to help you with a Rollover.
3. Choosing the Indirect Rollover option. The firm you choose for your Rollover will walk you through the process (and forms) needed to move your money. You will be given the option of having your 401(k) money sent to you, or you can have your ex-employer send the money directly into your new IRA. It is my strong recommendation that you NEVER choose to have the money sent to you directly.
It can be an insanely costly mistake: If you don’t then reinvest the money into an IRA within 60 days, the IRS steps in and deems the money as a withdrawal from your 401(k). That means you are going to have a big tax bill. Please: always check the box on your Rollover that allows the brokerage firm to take the reins and get your money directly rolled over from your old plan into your new IRA. That’s the best way to make sure your Rollover does not trigger any tax or penalty.
4. Keeping the Money in Cash. It is up to you to choose the new investments for your IRA. If you don’t tell your brokerage what funds or ETFs you want to invest in, your money will be parked in a money market account. These days that means earning close to nothing. You need your money to work harder for you; choose a portfolio of diversified stock and bond funds or ETFs. Every brokerage firm will have plenty of articles, and tools to help you create a smart portfolio.