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March 2019  Volume 17, Number 3        

retired couple

Retirement Plan Options for Former Employees

When employees leave a job, they often have to decide what to do with their 401(k) retirement account. Encourage them to investigate their options based on their financial situation and long-term goals. The decision they make could affect their retirement funds size.

Here are options to investigate — along with some pros and cons:

Leave the Plan Where it is

Employees can leave their employer-sponsored retirement plan where it is if they have at least $5,000 in the account. However, they cannot add any funds. The funds in the account remain invested.

Pros: This is the easiest option because employees don’t have to do anything. It's also a good option for employees who are tempted to borrow from the fund. And, it would be to their advantage to keep the fund if the plan has access to quality investments closed to new investors.

Cons: Employees cannot change how their money is invested. If they're near retirement they may be stuck with a plan that is invested too aggressively or it may be too conservative if they have many investment years ahead.

Roll the Plan into the New Employer's Plan

Employees who are leaving one company for another can just roll the old plan balance into the new plan.

Pros: With this option, they avoid taxes and penalties and can take advantage of the employer's matching funds. They also avoid having to keep track of multiple plans and can change their investment strategy as their investing style and risk tolerance change.

Cons: They won't gain anything if they don't ensure their plan has a diverse mix of stock and bond funds from and a low annual expense ratio. The ratio on each fund shouldn’t be more than 0.75 percent.

Roll the Plan into an IRA

If the employee is between jobs or is going to a company without a group retirement plan, there are other options. They can move their funds into an Individual Retirement Account (IRA), either traditional or Roth; however, they will owe taxes on the amount of pretax assets rolled over from a 401(k) into a Roth IRA. Traditional IRAs defer taxes until retirement, when the employee may be in a lower tax bracket and owes less tax on earnings. With a Roth IRA, the employee pays the taxes on contributions now, while earnings grow tax free. Distributions are tax free at retirement.

Pros of an IRA: By transferring the balance of a retirement plan into an IRA, the money will remain tax-deferred. Contributions are deductible up to 100 percent, but are limited to a maximum individual annual contribution of $5,000 per person.

Pros of a Roth IRA: If the employee retires before age 59 and a half, they can withdraw Roth IRA contributions without a penalty and taxes. Roth IRA distributions have no effect on Social Security tax status and individuals can contribute to their Roth IRA after age 70 and a half.

Cons: Unlike a 401(k), there may or may not be matching funds from an employer.

Roll the Plan into an Annuity

There are two categories of annuities ‐ deferred and income. Tax-deferred annuities can be a good way to boost retirement savings once the maximum allowable contribution has been made to a 401(k) or IRA. Deferred annuities have no IRS contribution limits and can be used for a guaranteed retirement income stream.

Pros for tax deferred: Earnings compound over time, providing growth opportunities that taxable accounts lack.

Pros for income: Depending on how annuities are funded, they may not have minimum required distributions (MRDs).

Cons for tax deferred and income: Withdrawals of taxable amounts from an annuity are subject to ordinary income tax. If taken before age 59 and a half, funds may be subject to a 10 percent penalty. Annuities also have annual charges.

Taking Cash

Employees can take some or all of the funds in cash. This can be tempting for employees experiencing financial difficulties.

Pros: Most people could use a windfall, and that is why so many people often turn to cashing out or borrowing from their fund.

Cons: If employees opt to take cash, they will miss tax-deferred compounding interest. Plus, they'll owe income tax on the amount they take out, and must pay a 10 percent early withdrawal penalty if they are under the age of 59 and a half. That penalty may be waived in certain hardship situations.

Please contact us if you have questions about retirement options or need advice about retirement planning for your employees.

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In this issue:

This Just In ... Expanded Hardship Distribution Rules Proposed for 401(k) Plans

Millennials — Changing the Health Care Landscape

Hospital Prices Now Must be Published Online — But is it a Game Changer?

Retirement Plan Options for Former Employees

How to Determine Whether Your Voluntary Plans Fall Under Safe Harbor



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