Did you forget something when you left your last employer?
Not the threadbare office sweater — your 401(k). Forgetting that could cost you.
Many companies stop maintaining a former employee’s 401(k) if there’s less than $5,000 in the account. Although it might be tempting to get a check for the remaining amount right away, cashing out your 401(k) comes with financial penalties and taxes while reducing your retirement savings.
But now a group of the largest 401(k) plan administrators, including Fidelity and Vanguard, are creating a way to change that — a sort of “lost and found” to make sure your old 401(k) accounts don’t slip out of your grasp.
And as more of us change jobs more frequently, there are additional opportunities for more of these small 401(k) accounts to be hanging around.
Here’s how you can track down your old 401(k) and hold onto more of your retirement savings.
‘Losing’ Your 401(k) Account
To be fair, a lot of this money isn’t totally, totally lost. It’s a little more complicated than that.
When you quit your job, you can’t contribute to your old 401(k) account anymore. But that money still belongs to you. You should roll it over into a new plan — either your new company’s 401(k) or an individual retirement account, aka an IRA.
If you fail to roll over your old 401(k) account and it’s less than the company’s minimum amount required to maintain the account, your long-term retirement investments from that account may be liquidated into cash whether you want that or not.
So instead of seamlessly continuing to invest that money for your golden years, you’ll eventually get a lump-sum check in your mailbox.
Doesn’t sound like a big deal? The catch is that you’ll pay nasty financial penalties, and the loss of even a small 401(k) account can put a serious dent in your retirement plans down the line.
If you’re younger than 59 when you cash out a retirement account, you’ll immediately pay a 10% penalty off the top. You’ll also have to pay income taxes on that money when you file your taxes.
Picture a 25-year-old worker who changes jobs and rolls over a small, $5,000 retirement account instead of cashing it out. Thanks to the sweet, sweet magic of compound interest and long-term investments, that bright-eyed young worker could see that $5,000 grow by 14 times to a whopping $70,000 by the time they retire.
If that same worker cashed out their $5,000, they’d incur a 10% penalty off the bat, which reduces their check to $4,500. Then they’d get stuck with a larger tax bill since that money will be counted as income.
The lesson: Don’t cash out your 401(k) if you can help it.
If You Don’t Pay Attention, They’ll Cash It Out for You
Why aren’t people rolling over their 401(k) accounts? It’s because we’re all changing jobs more often. Also, more employers are automatically enrolling workers into company 401(k) plans, creating lots of small retirement accounts that job-hopping workers are barely aware of.
If you don’t bother to roll over a small 401(k) account when you leave — an account holding $5,000 or less — here’s what happens:
- If it’s less than $1,000, your old employer will probably liquidate your retirement investments and mail you a check. And you get to pay all those financial penalties, hooray!
- If it’s between $1,000 and $5,000, your old employer will likely stick your money in an unmanaged IRA so the company’s 401(k) plan won’t have to pay the fees for it. But your money will just sit stupidly in that account as cash instead of being invested in stocks and bonds. You won’t pay any penalties, but your retirement money won’t grow like it should.
The cashing out of 401(k) accounts is turning into a bigger and bigger problem, emptying nearly $100 billion a year out of Americans’ retirement savings, according to the Employee Benefit Research Institute.
The new “lost and found” system we’re talking about will prevent this problem by automatically rolling over your retirement account — as long as your 401(k) plan is run by certain companies.
How the ‘Lost and Found’ Works
A coalition of big-time 401(k) plan administrators and IT companies, including Fidelity Investments, Vanguard Group, Alight Solutions and Retirement Clearinghouse created a consortium called Portability Services Network.
If you quit a job with $5,000 or less in your 401(k) account, this new system will transfer your 401(k) money into your new company’s plan whenever possible. The network is expected to launch in early 2023. Participants whose workplace retirement accounts are transferred via auto portability through PSN are charged a one-time transaction fee of $30 or less, depending on the size of the account.
Aside from 401(k) plans, they’ll also do the same thing for less-common 403(b), 401(a) and 457 plans.
What Should You Do?
This is important: Despite this cool new automatic system, it’s still probably your responsibility to make sure your old 401(k) account gets rolled over to your new plan — at least, for now.
The large 401(k) plan administrators that are doing this? They still account for only about 40% of all 401(k) investors.
At this point, that means about 60% of all 401(k) accounts are totally unaffected by all this. This new 401(k) “lost and found” system won’t find these accounts because it can’t see them.
For now, it’s still on you to keep your retirement plans running smoothly whenever you change jobs. Down the road, you’ll be happy you made the effort.
Mike Brassfield ([email protected]) is a senior writer at The Penny Hoarder.