If you’re changing jobs, take two steps to protect your retirement. First, if you have an outstanding loan from your 401(k) or 403(b) plan, get it paid off. If you don’t and you leave your job, the loan will be considered a distribution, triggering income taxes and probably tax penalties. There’s more on 401(k) loans in the chapter on borrowing. Second, if there’s a vesting schedule for your employer’s contribution to the retirement plan, see when the next vesting occurs and, if it’s soon, consider delaying your departure so you collect the extra money.
Once you leave your employer, you’ll have a choice: You may be able to leave your retirement plan balance in your old employer’s plan, move it to your new employer’s plan or transfer it to an IRA. What’s the right choice?
You’ll probably want to move the money if your old employer’s plan offers a limited selection of high-cost investment options. This, unfortunately, is often the case with small-business plans. You may also want to consolidate your retirement money in an IRA if simplifying your finances is a priority. Make sure you move the money using a trustee-to-trustee transfer or you could find yourself caught in a nasty tax trap. In addition, if you own your employer’s stock in the plan, investigate the “net unrealized appreciation” strategy, which we discuss later in this chapter.
While consolidating in an IRA sometimes makes sense, there are three reasons to keep your retirement money where it is or move it to your new employer’s plan. First, it could mean a smaller tax bill if you have an IRA with nondeductible contributions that you plan to convert to a Roth IRA. Second, you might keep money in a 401(k) or similar employer plan—and out of an IRA—if you’re worried about lawsuits, a topic we discuss elsewhere. While both IRAs and 401(k) plans enjoy some creditor protection, the protection is greater for 401(k) and similar plans.
Third, some employer plans are particularly well-designed—and you could find it tough to do better with an IRA. A good plan may include a small but diverse list of institutional funds with rock-bottom annual expenses, making it relatively easy for employees to build sensible portfolios. For instance, Vanguard Emerging Markets Stock Index Fund charges 0.33% a year if you invest $3,000, but the biggest retirement plans can get access to a share class that costs just 0.1%. In addition, an employer’s plan may include a stable-value fund that offers a combination of fixed share price and moderate yield that’s hard to find outside a 401(k).
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