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What to Do with Your 401k After a Layoff

What to Do with Your 401k After a Layoff

Nancy Opiela | Monster Contributing Writer

Option 2: Roll Your 401k over into an IRA

Rolling your 401k into an IRA affords you a wider universe of investment choices and greater control of your money. For example, you can withdraw cash, penalty-free, for a first-time home purchase or qualified education expenses. Transferring your old 401k plan to an IRA also can facilitate your ongoing investment management and record-keeping, but you give up the flexibility to take a loan from your account and creditor protection.

Note, too, that as of January 1, 2008, you can roll your 401k directly into a Roth IRA. With the Roth, once you pay your conversion taxes, all withdrawals are tax-free (including any growth from the market’s eventual rebound), provided you hold your Roth for at least five years and are at least 59½ years of age. Previously, you had to roll your 401k into a traditional IRA and then move that to a Roth IRA.

Option 3: Roll Over Your 401k into Your New Employer’s Plan

If you land another job right away, you may decide to roll over your 401k into your new employer’s plan. Again, you are limited in terms of investment choices but will enjoy the benefits of credit protection. You also can borrow from your account as long as you work for the employer.

What to Keep in Mind

The most important thing to remember when moving retirement money is to play by the rules. To avoid mistakes, rather than ask your company to send you a check for the 401k assets you plan to roll over, request a trustee-to-trustee transfer, also known as a direct transfer or a direct rollover. Why? Generally, when you take a distribution from a 401k plan to roll over, you must contribute it back into another IRA or other tax-deferred employer retirement plan within 60 days. If you don’t roll over the funds within 60 days, the IRS views it as a taxable and, depending on your age, possibly an early distribution.

Also, if you are issued a check, your employer must withhold 20 percent of your account balance for the IRS — even if you indicate you will open a rollover IRA. So, in order to invest your entire account balance into your new IRA within the 60 days, you need to come up with that withheld 20 percent to supplement the funds you receive from your employer. Of course, if you invest the full amount into a tax-deferred account within 60 days, you’ll get the 20 percent that was withheld back after you file your tax return.

Bottom line? Although losing your job creates financial stress, try not to panic and cash out your 401k. Ideally, your emergency fund or severance package can help you make ends meet while you’re between jobs, allowing your 401k money to continue to grow on a tax-deferred basis for your retirement.

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