4 Things You Can Do With An Old 401k Account

Your first option with an old 401k account is simply to take the money out of the account. Most retirees will take monthly or annual withdrawals from their 401k accounts depending on the rules of the plan. It is typically possible to withdraw the entire balance of an old 401k, but that is usually not the best strategy. This will be explained in detail later on.

Your second option with an old 401k account is simply to leave the money in the account. In general, most employers will allow you to keep the money in the account. There may be exceptions to this so make sure to check the details of your specific plan. This allows your money to stay invested in a tax deferred account.

The downside is that you can no longer contribute to the plan as you are no longer employed with that company and you lose your employer's match if one is offered. However, this may be a more viable option than taking the money out of the account as you won't incur taxes or penalties.

Your third option is simply to roll your old 401k plan into your new or current employer's 401k plan if one is offered. This will allow you the ability to continue to contribute to a 401k account which offers a tax deferred benefit as well as a match from your new employer if one is offered.  

Your final option is to roll your old 401k account to an IRA, or individual retirement account. An IRA differs from a 401k in that it is not offered through your employer, but instead can be obtained through various financial institutions including online brokers.

The rules of IRAs differ slightly from those of 401k accounts, but they may be a viable option for you. IRAs typically offer a broader selection of investments choices than a 401k and give you more control over the account when compared to a 401k.

Like most questions in personal finance, the answer is that it depends. There is not a definitive answer that makes one of the four options listed above better than the others. You need to choose the option that is most suitable for your individual circumstances. With that being said, there are some things you can think through to help you make a more informed decision which are discussed below.

As you think through what to do with your old 401k, the primary goal should be to have a plan. Many Americans don't take the time to formulate a plan that will get the best use out of their old 401k. In some respects, this makes sense.

When individuals change jobs, their primary goal is usually to get acclimated to that new job which often means that dealing with their old 401k gets put on the back burner. However, this problem is a growing one and needs to be addressed.  

According to a study by Capitalize, there are over $1 trillion in assets that are left in old 401k accounts by Americans. This means that Americans are not taking the time to formulate a plan with their old 401k and instead just ignore it by leaving the money in the account.

For many individuals, their 401k is a key part of their retirement plan. When you ignore your old 401k, you are quite literally ignoring your future self. Although it can be a hassle to make a plan for an old 401k in the short term, you will be grateful you did when you retire.

The main advantage of taking money out of your 401k is that you get to realize the value of your investments. You have worked hard for years saving for retirement and you finally get to enjoy the fruits of your labor.

The main disadvantage to pulling money out of your 401k is that you will incur taxes and potential penalties depending on when you withdraw the money. Under current rules, you can start to withdraw money penalty free from your 401k once you are 59 and a half years old.

It is crucial to note that "penalty free withdrawals" will still be subject to taxes at your ordinary income rate once you are 59 and a half years old. However, if you withdraw money from your 401k before you are 59 and a half you will incur a 10% penalty in addition to applicable taxes.

Keep in mind that the taxes you have to pay from 401k withdrawals in retirement can work for you or against you. Remember, 401k accounts (as long as they are a Traditional 401k) allow you to defer or wait to pay taxes on the growth of the investments inside of the account until you retire.

If your tax rate during your working years is higher than it will be in retirement, the tax deferred benefit can work in your favor. Reason being is that you get to pay taxes at a lower tax rate in the future. However, if your tax rate ends up being higher in retirement, the tax deferred benefit of a 401k can work against you.

Reason being is that you end up paying more taxes in retirement than you would have if you paid taxes during your working years. Keep in mind that this is just a general principle. Working with a financial advisor can help you better understand whether a tax deferred or tax free account is more beneficial for your retirement.

The point here is that in general, you should only take money out of your 401k when you plan to retire. There may be an exception to this rule depending on your individual circumstances, but in general withdrawing from your 401k plan is usually only advantageous in retirement.

The primary advantage of leaving money in your old 401k plan is that your investments will still be able to grow in a tax advantaged account. Additionally, you might like the investments your old 401k plan offers and want to stay invested in them.

On the flipside, simply leaving the money in your old 401k does have some negatives. First, you lose the ability to contribute to an old 401k account when you leave your employer that sponsored that 401k account. Consistently investing is a key to long term wealth building.

When you lose the ability to contribute to an investing account, you will have less wealth in retirement. Secondly, you may be leaving investment choices on the table if you choose to simply leave your old 401k account in the plan.

401k plans typically offer a small selection of mutual funds to invest in (usually 30 to 40 mutual funds). As mentioned before, you might like the investment selection that your specific plan offers, but not all 401k plans have a good investment selection.

Some 401k plans do not offer funds that allow sufficient diversification or offer funds with expense ratios (fees) that are higher than normal. The point here is that leaving your old 401k alone is a viable option for some, but rolling to a new 401k or IRA may be better.

Rolling over to a new 401k is typically going to be a better choice than taking a withdrawal or leaving the money in the account as long as you are not yet retired. Rolling an old 401k plan to your new or current employer's 401k plan will allow you to continue to invest in a tax advantaged account and also allow you to get your employer's match if one is offered.

The more you contribute to your retirement accounts, the likelihood that you build more wealth increases. As an investor, you want the ability to make contributions to retirement accounts or other types of investment accounts for that matter.

Rolling your old 401k to a new 401k will allow you to do so. On the flipside, rolling to a new 401k may also have a disadvantage. The main problem you could incur is that the 401k plan that you intend to roll into, is not as good as your old 401k plan.

For example, let's say that your old 401k plan offered a wide range of funds that invested in various types of assets. This allowed you to build a well diversified portfolio that aligned with your personal goals and risk tolerance.

Additionally, say that the funds in your old 401k plan charged low fees so that the majority of your money would be invested as you contributed to the plan. However, say that your new 401k plan did not offer a strong range of investment funds and the funds charged higher fees.

Now, your new 401k plan may be just as good as your old 401k or even better which is why some investors choose to rollover their old 401k plan to a new one. The point here is simply to look at what your new plan offers before deciding to rollover.  

As mentioned previously, an IRA is a type of retirement account that is held outside of work. Typically through a broker. This creates several advantages. First, it gives you more control over the account than an employer sponsored 401k.

Since an IRA is held outside of work, the account follows you no matter where you work. You are not dependent upon an employer to offer it as a benefit. If your employer does not offer a 401k at all, IRAs are typically going to be your next best option.

Secondly, IRAs offer a much broader investment selection. As previously discussed, 401k plans typically offer a small selection of investment funds. IRAs on the other hand typically allow you to invest in hundreds if not thousands of investments.

This obviously allows you to get access to investments that are not offered in a 401k plan and that may be suitable for your individual needs. If you want more control over the investment account itself and want a broader investment selection, rolling your old 401k plan into an IRA may be a viable solution for you.

Just like there are advantages to IRA rollovers, there are a few disadvantages as well. First, IRAs have lower contribution limits than 401k plans. For 2024, the maximum amount you can contribute to a 401k plan is $22,500 per year or $30,000 per year if you are 50 or older.

IRAs on the other hand only allow you to contribute $7,000 per year or $8,000 per year if you are 50 or older. Secondly, many employers will offer to match your contributions up to a certain amount. IRAs on the other hand do not offer an employer match as the account is not a workplace retirement plan.

Here's the good news. You can have both an IRA and a 401k at the same time. If suitable, you could rollover an old 401k account to an IRA to get broader investment selection with more account control and then invest in your new or current employer's 401k plan to take advantage of higher contribution limits and employer matching contributions if offered.

The bottom line is that you typically have four options to choose from when you have an old 401k account. These include withdrawing the money from the account, leaving the money in the account, rolling over to a new 401k, or rolling over to an IRA.

Each of these options has advantages and disadvantages so you want to pick the one that is most suitable for your individual circumstances as everyone's needs are different. As a general rule, options three and four are typically going to be more suitable than options one and two if you are still working.

As mentioned previously, you typically do not want to withdraw money from an old 401k account until you are in retirement. Additionally, leaving the money in the account is not going to be as beneficial as a 401k or IRA rollover as you would no longer be able to contribute to the account.