If I No Longer Work for a Company, Can I Withdraw My 401k?
After leaving a job, your 401(k) decision requires understanding the tax consequences and procedural steps to manage your retirement funds effectively.
Leaving a job marks a major transition, and one of the financial decisions you’ll face is what to do with your 401(k) plan. You have several options, each with its own rules and financial implications that can affect your long-term retirement savings and current tax situation.
Cashing Out Your 401(k)
Taking a cash distribution from your 401(k) after leaving an employer means you are liquidating the account and receiving the funds directly. The entire pre-tax balance of your withdrawal is considered ordinary income by the Internal Revenue Service (IRS). This amount is added to your total income for the year, which can push you into a higher tax bracket and result in a larger tax bill.
In addition to income tax, if you are younger than 59½, the IRS imposes a 10% early withdrawal penalty on the distributed amount. For example, on a $50,000 withdrawal, this penalty alone would be $5,000. When combined with federal and state income taxes, a large portion of your 401(k) balance can be consumed by taxes and penalties, reducing the net amount you receive.
Certain situations allow for a penalty-free withdrawal, although the distribution is still subject to income tax. These exceptions require documentation and include:
- Separation from service during or after the year you turn 55.
- Becoming totally and permanently disabled.
- Having medical expenses that exceed 7.5% of your adjusted gross income.
- A terminal illness diagnosis.
- Victims of domestic abuse, who can withdraw the lesser of $10,000 or 50% of their account balance.
- Unforeseeable emergency expenses up to $1,000.
Rolling Over Your 401(k) Funds
A rollover is a method of moving your retirement savings from your former employer’s 401(k) into another tax-advantaged retirement account without triggering taxes or penalties. This preserves the tax-deferred status of your funds. There are two distinct methods for executing a rollover.
The most straightforward method is a direct rollover. In this transaction, the administrator of your old 401(k) plan sends the funds directly to the custodian of your new retirement account. Because you never take possession of the money, there is no tax withholding and no risk of accidentally violating tax rules.
An indirect rollover is a more complex process. Your former plan administrator sends you a check for your vested account balance, but they are required by federal law to withhold 20% for potential income taxes. You then have 60 days from the date you receive the funds to deposit the full original amount into a new retirement account. For example, if your balance was $50,000, you would receive a check for $40,000. To complete a tax-free rollover, you must deposit the full $50,000, which means you must contribute the withheld $10,000 from your own pocket. If you only deposit the $40,000 you received, the $10,000 withheld is treated as a taxable distribution and will be subject to the 10% early withdrawal penalty if you are under 59½.
You can roll funds into a new employer’s 401(k) or an IRA. A new 401(k) may offer loan provisions, while an IRA provides a wider array of investment choices. You can also consider a rollover to a Roth IRA, which is a conversion. This requires you to pay income tax on the rolled-over amount now, but qualified withdrawals in retirement will be tax-free.
Leaving Funds in Your Former Employer’s Plan
You can sometimes leave your money in your former employer’s 401(k) plan. This option is available if your vested account balance is above a certain threshold. If your balance is more than $7,000, you have the right to keep your funds in the old plan.
If your vested balance falls below this amount, the plan sponsor has the right to force your money out. For balances between $1,000 and $7,000, the employer can automatically roll your funds into an IRA of their choosing. If your balance is less than $1,000, the plan can either perform this automatic rollover or send you a check, which would be a taxable event.
Some 401(k) plans offer access to unique institutional-class investment funds with very low expense ratios that may not be available to individual investors in an IRA. For others, the simplicity of not having to move the money is appealing. It is important to review the plan’s documents and investment performance to determine if staying put aligns with your financial objectives.
How to Initiate a Distribution or Rollover
To begin the process of moving your 401(k) funds, you must first contact the plan administrator. This is the financial institution that manages the plan, not your former employer’s HR department, although HR can provide the administrator’s contact information. You can find the administrator’s name and contact details on a recent account statement.
Once you make contact, you will need to request the appropriate distribution or rollover forms. These documents will require you to provide personal identifying information to verify your identity. You will need to clearly indicate whether you are requesting a full cash-out or a rollover. If executing a rollover, you must provide the details of the receiving account, including the financial institution’s name and your new account number.
After completing and signing the paperwork, submit it according to the administrator’s instructions. The processing time can vary, but you should receive a confirmation notice. For a direct rollover, the funds may take several business days to appear in your new account. If you’ve requested a cash-out or an indirect rollover, expect to receive a check in the mail within a few weeks.