Your retirement savings plan offers you several choices for
managing the money that has accumulated in your account when you
decide to change jobs or retire. This may include amounts you have
contributed, the vested portion of any amounts your employer has
contributed, plus any earnings on those contributions.
You will want to think carefully before making any decisions
about withdrawing the money in your retirement plan, as some
choices may entail greater tax liability than others.
A Look at Some of Your Choices
Generally, you have three options for managing the money in your
retirement plan when you change jobs or retire:
Keep your money in the plan:
- Generally available if your account balance was more than
$5,000 when you terminated employment.
- Continue to enjoy tax-deferred compounding of any investment
earnings.
- Continue to receive regular account statements and performance
reports.
- While new contributions are not allowed, you will still have
control over how your money is invested among the plan's investment
options.
- Minimum distributions must begin after you reach age 72.
When retiring, you might choose this
option if your spouse is still working or if you have other sources
of retirement income. Or, if you're starting your own business when
you leave your current job, keeping your retirement money in your
former company's plan may help protect your retirement assets from
creditors, should your new venture run into unforeseen trouble.
Move your money to another retirement
account:
- You can move your money into another qualified retirement
account, such as an IRA, or, if you're changing jobs, your new
employer's retirement savings plan.
- With a "direct rollover," the money goes directly from your
former employer's retirement plan to the IRA or new plan, and you
never touch your money. With this method, you continue to defer
taxes on the full amount of your plan savings.1
Take a cash distribution:
- Have your money paid to you in one lump sum, or in installments
of a fixed amount over a set number of years, depending on your
plan's provisions.
- Choosing to take part or all of your money when you retire or
change jobs is considered a cash distribution, which is subject to
ordinary income tax and a mandatory tax withholding of 20%.
- Individuals under age 59½ (55 in some circumstances)
could also be liable for a 10% additional federal tax on early
withdrawal, in addition to state taxes and penalties.
To avoid paying taxes and/or penalties on a cash distribution
consider redepositing your money within 60 days to an IRA or your
new employer's qualified plan. In this case you'd have to make up
the 20% withholding from your own pocket, but any excess tax
payment would be refunded when you file your regular income tax
return.
| The Potential Cost of a Cash
Distribution |
| Distribution |
-20% Tax Withholding2 |
= Cash Amount Before Any Actual Taxes |
| $10,000 Distribution |
-$2,000 Tax Withholding |
= $8,000 Before Actual Taxes Are Paid |
Retirees Should Consider Tax Consequences
- If you're retiring, and opt for the lump-sum option, you will
want to determine if there are any favorable tax rules that apply
to your distribution, such as the minimum distribution allowance or
10-year forward income averaging if you were born before January 2,
1936.
- To qualify as a lump-sum distribution, you must receive all the
money in all of your retirement plans with a company (including
401(k), profit sharing, and stock purchase plans) within a one-year
period.
There may be other distribution options available. Contact your
plan administrator for information on all options available under
your plan. Then be sure to consult a qualified tax and financial
planning professional to ensure that your planning decisions
coincide with your financial goals.
