While the unemployment rate for the state of Utah may be decreasing, first-time unemployment claims in the state reached their highest level in a year this January. It appears that although Utah is adding jobs — more than 36,000 in 2011 alone — some local companies are still experiencing downsizing. Those Utahns affected are starting anew in 2012 and likely have questions about their new, or old, company benefits.
A big question facing both the unemployed and newly employed is: What should they do about their 401(k) plan?
With 401(k)s in particular, there are a lot of decisions that need to be made regarding how to manage the plans. Whether you’re new to a company, retiring this year or recently laid off, you will need to make some tough choices regarding your defined contribution plan. Here is some guidance to help you make the best decision for your specific situation.
If you find yourself recently laid off with a 401(k) and are considering
Cashing out your 401(k) account: Desperate times can call for desperate measures, but if you choose this option, be prepared to deal with the consequences. If you are under the age of 59 1/2 and cash out your 401(k), you will be assessed a 10-percent early withdrawal penalty. In addition, the remaining amount will be counted as income, and you will have to pay income taxes on that amount as well. If you don’t put that money away or pay the IRS immediately, you may have a tax problem on your hands come next April.
Rolling over to an IRA: It’s not recommended to keep a 401(k) with a previous employer, and if you’re currently unemployed, an option you may want to consider is rolling over your 401(k) balance into an IRA. An IRA can give you more control of your money, more investment options and more than likely a lower fee structure too. However, be sure you do a trustee-to-trustee transfer. The conversion must be “qualified” and direct in order to avoid the 20-percent withholding trap. In order to have a direct transfer, do not get the check issued in your name, but rather the name of the new custodian.
If you’re beginning a new job that offers a 401(k) and are considering
Opening a new account: If you don’t currently have a 401(k) and your employer offers one, review the benefits that accompany the retirement savings plan before signing up. Some plans can be costly and depending on how much money you intend to put away each year, an IRA may better suit your needs. However, if your new employer offers account matching, then go for it — it’s free money! Contribute at least as much as they’re willing to match. Not only will you be putting money away for your future retirement, but you will be reducing your current tax liabilities as well.
Rolling over to a new 401(k): If you are simply changing jobs, you may be able to roll over your 401(k) to a new employer plan. This would allow you to take advantage of any contribution matching as well as provide you more flexibility for early withdrawals, loans, lower minimum balance requirements and higher before-tax contributions than that of an IRA. In addition, 401(k) contribution limits have increased for the first time since 2009, giving you the opportunity to save even more. Contribution limits have been raised to $17,000 this year, a $500 increase, while workers 50 or older can save up to $22,500 in 2012.
No matter your situation, whether you’re unemployed, newly employed or recently retired and are considering rolling over your 401(k) into an IRA, make sure you choose the right IRA for you. There are many differences between a traditional IRA and a Roth IRA, so be sure to gather all of the necessary facts before making any decisions about your money.
If you have any questions or concerns about whether withdrawing money or rolling over your 401(k) account makes sense for your current financial situation, or what IRA account type is right for you, be sure to discuss those concerns with a qualified financial professional who can act as your fiduciary and give you recommendations specific to your unique needs.
Sean P. Lee, a working partner and the Director of Financial Services for Galileo Financial Group, is known as Utah’s Retirement Coach. He specializes in financial planning and assisting clients with retirement income plans for their golden years.