Like boxes in the attic, many people have an employer-sponsored plan from a former job like a 401(k) sitting out there. It's not uncommon anymore to speak with someone who has worked several different companies over the last 10 years, indicative of the fast-paced corporate world and its tumultuous tendency to show more favor to the bottom line than to the people who drive it. If you've participated in a company-sponsored plan and your employment has ended (voluntary or not), you likely have a plan just sitting in investment limbo.
The maximum employee contribution in in 2019 is $19,000 (or $25,000 for those aged 50 or older, due to catch-up contributions). That is up $500 from 2018 when the limit was $18,500. Your employer can make matching contributions up to and totaling $56,000 for any one individual (up from $55,000 in 2018). These plans can have a pre-tax component or after-tax component. Normally, a myriad of investments are available as options for growing your retirement assets, in keeping with your desired risk tolerance level.
Knowing what to do with your former plan can depend on your circumstances. You should always consult a professional tax advisor or financial advisor before making any decision. You may not know what to ask your financial advisor, so let's discuss some questions that may potentially bring some light to your 401(k) attic.
Questions to Ask
1. 'What are my options?'
This is the most important question you can ask. The answer, depending on your desires and circumstances, could be one of the following:
a) Keep the money where it's at, if permitted. You'll no longer be able to make contributions but you may change how you are allocating your funds. This option also may allow you to make penalty-free withdrawals based on certain criteria. Check with the administrator, as every plan is different.
b) Roll over the money into your current work plan, if permitted. This will terminate your former plan account. This action gives you control over contributions and investment options for the funds once again, but subject to the provisions of the new plan.
c) Cash out. This option can be a very expensive way to use your money, as the funds will be subject to any taxes and penalties that may apply. For example, let's say a 45-year-old Michigan resident is cashing out his account of $10,000. It will be subject to ordinary income tax: We'll assume he's in the 24% bracket (as of 2018 that means $82,501 to $157,500 in taxable income). There's also a 10% penalty, because he's under 59½, and let's not forget another 4.25% for the Michigan state tax, totaling 38.25%. To use his $10,000 will cost him $3,825.
d) Roll the money into an individual retirement account (IRA). This could mean a traditional IRA or Roth IRA depending on your how your contributions were made. Doing this, an investor opens the door to flexible investment strategies in contrast to the one-size-fits-all options in a 401(k). But there are drawbacks, too. Keep in mind that you can make 2018 contributions to an IRA until tax day (April 15, 2019), but all 401(k) contributions must be made by the end of the calendar year.
2. 'What are the current fees in my plan?'
I'm always surprised that people think their 401(k) is "free." I have never encountered an investment that was "free." Investment companies are not investing your money for nothing. DOL regulation 408(b)(2) makes it mandatory for employers to disclose fees, which include investment expense ratios, plan provider fees, administration and other miscellaneous fees, to each participant.
3) 'If I perform a rollover, how will the fees change?'
Every investment professional is required by the Financial Industry Regulatory Authority (FINRA) to disclose the expense associated with each investment in enough detail that the investor clearly understands the obligation.
4) 'Is a Roth conversion something I should consider?'
The IRS allows you to convert any amount of your pre-tax retirement assets to after-tax Roth contributions. Prior to 2010, only those with an adjusted gross income below $100,000 were eligible for a conversion. Now, there is no income cap but there are many rules and tax implications to be aware of.
5) 'If I perform a rollover, what advantages could I realize?'
This should get a conversation going regarding the "why" of the rollover. Every investor should match themselves up with a professional who understands what they're trying to accomplish. An advisor should be discussing with each investor the pros and cons regarding rollovers that are based on the investor's specific and current situation.
The Bottom Line
Your retirement money is important. Know your options completely. Meet with your accountant if your financial advisor isn't up on the tax stuff. And, as always, don't do anything you're not sure of or uncomfortable with. And again, the advantage and disadvantages of a Roth conversion are many, so your best course of action is to do your homework, know the rules and seek out professional advice.