More Departing Workers Roll Over 401(k)s into IRAs

By Stephen Miller Mar 22, 2010
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More employees are rolling their 401(k) savings into individual retirement accounts (IRAs) when leaving a job, according to new data from investment firm Charles Schwab. The firm's analysis shows that 69 percent of assets held by 401(k) participants who left their jobs in the fourth quarter of 2008 had been distributed from former employers’ plans by the end of 2009. An overwhelming majority of those assets was rolled over into IRAs.

Of the distributed assets in the Schwab data:

  • 80 percent were rolled over into IRAs.
  • 10 percent were taken in cash distributions.
  • 8 percent were moved into new employer plans.
  • 2 percent were taken in other forms of distribution.

A prior analysis by Schwab from the beginning of 2008 to the beginning of 2009 found that 57 percent of 401(k) assets held by workers who left their jobs had been distributed one year later. Three-quarters (75 percent) of those distributed assets were rolled over into IRAs.

“We are definitely seeing an uptick in the number of 401(k) plan participants who choose to roll over plan assets instead of cashing out or leaving savings with a previous employer,” says Catherine Golladay, vice president of 401(k) advice and education at Charles Schwab. “Consumers have been made more aware of the importance of saving for retirement, and when it comes time to change jobs, more people are thinking through their options for how to make the most of the money they have already saved.”

‘We are definitely seeing an uptick in 401(k) participants
who choose to roll over plan assets instead of cashing out
or leaving savings with a previous employer.’


IRA or New Employer’s Plan?

The advantages of moving retirement savings into an IRA or new employer’s plan include the ability to avoid current income taxes and potential penalties by keeping retirement savings invested. But there are factors to consider with each option.

“Rolling money into an IRA can keep retirement savings more top of mind,” says Golladay, who adds that money left behind with a employer is often forgotten, which can result in asset allocations falling way off balance based on an individual’s savings objectives and risk tolerance.

On the other hand, rolling funds into a new employer's 401(k) enables savings to continue to grow on a tax-deferred basis "and provides the simplicity of having 401(k) savings consolidated into one workplace plan," Golladay notes, adding that "it can be a good option for workers who seek the features and investment choices available in their new plan.” Moreover, workplace retirement plans can have greater access to institutionally priced investments not always available to individual investors.

Cash Distribution's Downside

There's little disagreement, however, about the significant downsides to taking a cash distribution from a 401(k) plan. Individuals who take money out of their employer-sponsored retirement plan before age 59½ will pay a 10 percent federal penalty, and, even if the penalties do not apply, they will still face federal, state and possibly even local income taxes. In addition, the federal government will take 20 percent of the withdrawal immediately as an advance on the employee's tax bill.

Additional disadvantages include:

  • Losing the power of tax-deferred compounding savings available in a tax-deferred savings plan.
  • Once money is cashed out of a 401(k) for 60 days, it can no longer be rolled into an IRA or new employer’s plan.

Stephen Miller, CEBS, is an online editor/manager for SHRM. Follow me on Twitter.

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