Sooner or later pretty much everyone is going to wind up in the situation of needing to complete a 401k rollover. Whether it’s changing jobs or starting a new career, the main thing that most of us want out of doing a 401k rollover is for the whole thing to go smoothly and be completed as quickly as possible. Here are some common mistakes to avoid when you need to do your own 401k rollover.
Early Withdrawal
I know it’s tempting. You’re looking at that last 401k statement you got from your old employer and you’re thinking about just cashing out and getting several thousand dollars to spend. You may even have some unexpected bills that just popped up and taking the money would be a great way to pay for them. But I can say, without hesitation, that this is absolutely one of the worst financial decisions you can make.
Cashing out of your 401k, or taking an early withdrawal, means you’ll pay somewhere around 30 to 40% of your balance in taxes. That means for every $1,000 you have saved, you’ll pay $300 to $400 in taxes. That is not a good deal. And anyway, you were saving that money for retirement, right? Don’t undo the goal that you’ve been working toward all these years by pulling your cash out.
Getting The Paperwork Right
Speaking of taking an early withdrawal, it’s important to make sure that you fill out the rollover paperwork correctly so that you don’t accidentally withdraw your money. Any option that sends you the money is considered an early withdrawal. Even if you’re planning on taking the money straight to your bank and depositing it into an IRA, your old employer is required by law to withhold the appropriate taxes and penalties.
When you’re checking through the options, you want to select “direct rollover” or something similar. In a normal 401k rollover, the funds will be handled by the two financial companies (your old one and your new one) and you’ll never see or have to handle the money directly.
Don’t Take Too Long To Act
With all of the various options out there, it’s often easier to just do nothing about your old 401k instead of actually figuring out what to do about it. The problem with this is that it’s so easy to forget all about your 401k, and the next thing you know it’s 4 or 5 years later and you still haven’t done anything with it. The real problem with this is that you’re almost certainly not monitoring the funds in that account, and you won’t know if things start to change for the worse.
If you’re starting a new job and have a 401k that you need to rollover, give yourself 6 months to do something about it. 6 months is plenty of time to get comfortable in your new job, investigate all of the investment options out there, and get the paperwork done. If you haven’t taken any action at the end of 6 months, just roll the old 401k into your new 401k and be done with it.
For discussion of some other things to avoid in a rollover, check out this post on the drawbacks of doing a 401k rollover.