Don’t Neglect Your 401(k) If You Get Laid Off

Losing a job can be a daunting experience. The abrupt transition from regular paychecks to a state of unemployment can lead to significant financial struggles. As you see your bills accumulating, you face mental stress and emotional strain, and your loved ones also share in the burden. Amidst the financial uncertainty that comes with losing your job, another essential consideration that deserves your attention is the future of your 401(k) retirement savings account. While retirement might seem like a distant concern in the face of immediate job loss, neglecting your 401(k) could have lasting repercussions on your financial well-being down the line.

A financial advisor can help you navigate what to do with your 401(k) if you get laid off. This article will discuss the importance of not neglecting your 401(k) if you find yourself getting laid off. It will also explore the potential consequences and the strategies you can employ to safeguard your long-term financial security.

What to do with your 401(k) if you get laid off

Your 401(k) money is independent of your employment status. This means if you get fired, you will not lose your funds. You will still have ownership of your account. You have four options you can choose at this point. Each option has its own set of advantages and disadvantages. It is crucial to evaluate your financial situation, long-term goals, and potential tax implications before making a decision. Consulting a financial advisor who can provide personalized guidance based on your specific circumstances can also help.

Option 1: Leave your money where it is

If your 401(k) holds more than $5,000, you can decide to leave it in your old employer’s 401(k) plan. Even if your balance is less than $5,000, some former employers might allow you to keep the money there. However, not all employers will offer this option, and it is wise to confirm with them first. Remember that certain employers have the right to require you to withdraw the money if it is below $5,000, but not all will exercise this option. This decision can have specific pros and cons, and it is advisable to analyze them before making a call.

Pros of leaving your money as it is:

1. It is simple and hands-off: Leaving your money in your old 401(k) is easy. You do not need to take any immediate actions or make investment decisions.
2. You may benefit from tax-deferred growth: Your money can continue to grow tax-deferred within the 401(k) account, potentially allowing your investments to compound over time.
3. You may not face any immediate tax consequences: There are no immediate tax implications or penalties if you leave your money in the old 401(k). This ensures you are not burdened more in an already financially delicate situation.

Cons of leaving your money as it is:

1. You will have limited investment choices: If you decide to leave the money in your old account, you may be restricted to the investment options provided by your former employer’s plan. This might limit your ability to diversify your portfolio in the future.
2. You may have to track multiple accounts: If you get a new job, you will likely get a new 401(k) as well. Multiple old 401(k) accounts from different employers might be challenging to keep track.
3. Lack of an employer match: In most cases, employer matches are contingent on active employment. If you are fired, these matches might stop immediately. The contributions you have already received from them would typically remain in your account. However, you will not receive any more matches in the future.

Option 2: Withdraw the 401(k) money

When leaving your job, you can take out all your 401(k) funds. However, it is essential to understand that this might trigger tax liabilities. Your 401(k) is a tax-deferred account. This means you do not pay any tax on your contributions. However, your withdrawals are taxed. If you withdraw your money, your funds will be added to your taxable income for the year and taxed according to the tax slab you fall into. Another thing to keep in mind is that the Internal Revenue Service (IRS) also imposes a 10% penalty on early withdrawals made before age 59.5. If you get fired and take the funds out before this age, you will have to pay this penalty on top of regular taxes.

Pros of withdrawing your 401(k) money:

1. It provides immediate access to funds: You have immediate access to the money in your 401(k), which could be helpful. Losing a job can present many financial hurdles, and this money can help you overcome them.
2. It can be a quick solution for emergencies: If you are facing financial emergencies or unexpected expenses at the same time as losing your job, this option can provide a source of funds when needed. For instance, medical expenses or home repairs may spring up at the same time as you get fired. In such a case, you may need funds in addition to the money from your emergency fund. A 401(k) can be ideal in such a situation.

 Cons of withdrawing your 401(k) money:

1. You may have to deal with tax liabilities: Withdrawing money triggers taxes, potentially resulting in a significant tax bill. Depending on your tax bracket and withdrawal amount, you could incur high taxes and add to your financial challenges at a trying time.
2. You may face an early withdrawal penalty: If you are under 59.5 years old, you will face a 10% early withdrawal penalty on your withdrawal. This penalty will be levied on top of regular taxes.
3. It will result in reduced retirement savings: Cashing out your 401(k) may offer temporary financial relief. But it also means losing out on potential future growth of your investments. This can end up impacting your retirement funds and future financial security.

Option 3: Switch your old 401(k) to the new employer (if applicable)

If you find a new job after being let go, you might be able to transfer your old 401(k) to your new employer’s retirement plan. This can consolidate your retirement savings and potentially provide more investment options. However, you must confirm if your new employer offers a 401(k) first. You must also evaluate the investment options within the account. Another thing to focus on is the employer match. Verify if your new employer offers a match. This can help you build your savings faster. Here are some pros and cons of this move:

Pros of switching your old 401(k) to a new employer:

1. It may simplify your account management: Consolidating your old 401(k) into your new employer’s plan can streamline your retirement savings. Instead of managing multiple accounts, you can focus on one. This can make it easier to keep track of all your contributions and investment growth.
2. It can provide access to new investment choices: Different retirement plans offer varying investment options. By transferring your funds, you might gain access to a broader array of investment opportunities. This can potentially allow you to diversify your portfolio and align it more closely with your present risk tolerance and long-term goals.
3. You may incur lower fees: Some larger employer-sponsored retirement plans negotiate lower fees due to their size, which could lead to cost savings for you. Lower fees mean more of your money can stay invested and potentially grow over time.
4. You can benefit from continued tax-deferred growth: Just like your old 401(k), the funds you transfer to the new plan will continue to grow on a tax-deferred basis. This can contribute to more substantial savings over the long term.

Cons of switching your old 401(k) to a new employer:

1. It may lead to increased administrative processes: Transferring funds between retirement plans requires time and effort. You will need to follow the procedure outlined by your new employer’s plan and possibly coordinate with your previous plan administrator.

Option 4: Roll over to an Individual Retirement Account (IRA)

When you are faced with a layoff and have an old 401(k) from a previous employer, another choice to consider is rolling over those funds into an Individual Retirement Account (IRA). This option can offer you more control over your retirement savings and potentially lead to reduced fees. Rolling over your old 401(k) into an IRA can grant you greater control over your investments, more diversified choices, and potentially lower costs. However, this option requires a higher level of involvement in managing your retirement savings. To make an informed decision, assessing your investment knowledge, long-term goals, and comfort level with managing your portfolio is advisable.

Pros of rolling over your 401(k) to an IRA:

1. It may provide diverse investment options: IRAs typically provide a broader range of investment choices compared to employer-sponsored 401(k) plans. The variety of options enables you to tailor your investment strategy to your preferences, risk tolerance, and long-term goals.
2. You can gain control over your investments: With an IRA, you become the decision-maker for your investments. IRA is not an employer-sponsored plan, and you have greater control over your investments. You can actively manage your portfolio, make adjustments as needed, and choose investments that match your evolving financial strategy.
3. You may incur lower fees: While you do not get to choose a 401(k), you do get to choose an IRA. You can compare multiple IRA plans and pick a plan administrator offering an IRA with lower costs than some employer-sponsored plans. This means more of your money stays invested, potentially leading to higher growth over time.
4. You may be able to consolidate all your retirement savings: If you have multiple 401(k) accounts from various old employers, rolling them over into a single IRA can simplify your finances. You will have a central place to manage and monitor your retirement funds.

Cons of rolling over your 401(k) to an IRA:

1. Increased account management responsibility: Managing your IRA requires active involvement on your part. You will need to research and select your investments, which might be challenging if you are unfamiliar with investing or lack the time to monitor your portfolio closely.
2. Potential fees: While IRAs generally have lower fees, there might still be costs associated with managing your account and specific investment products. It is essential to understand these potential expenses.
3. Low contribution limits: The contribution limits for IRAs are generally lower compared to 401(k) plans. As of 2023, you can contribute up to $6,500 to an IRA if you are under the age of 50 and $7,500 if you are 50 or older. In contrast, 401(k) plans have higher contribution limits, allowing you to contribute up to $22,500 if you are under 50 and $30,000 if you are 50 or older. This difference can significantly impact the total amount you can save for retirement, potentially altering your final return over time.
4. No employer contributions: One of the most notable distinctions between IRAs and 401(k) plans is the possibility of employer contributions. Many 401(k) plans offer employer matching contributions, which can be a significant financial benefit. The total contribution limit, combining both employer and employee contributions, is substantial for 401(k) plans. As of 2023, it is $66,000 for those under 50 and $73,500 for those aged 50 or older. However, with an IRA, there are no employer contributions. This means that if you roll over your old 401(k) into an IRA, you might miss out on potential employer matches, which could lead to a loss of money in the long run.

Other 401(k) related questions answered 

1. What happens to a 401(k) when you quit?

When you quit a job, your 401(k) options are similar to when you get fired. You have several choices for what to do with your 401(k) funds, and your decision should be based on your circumstances, financial needs, and tax situation.

2. Can I contribute to a 401(k) after leaving my job? 

You can keep your old 401(k) retirement account if you quit a job. A lot of people keep their old 401(k) accounts. This can be beneficial if you have a well-diversified portfolio and pay lower fees. However, you may get this option if you quit your job and not necessarily if you get fired. It is advised to check this with your employer and then make a call.

3. Can I withdraw my 401(k) if I get laid off?

Yes, you can withdraw your 401(k) if you get laid off. However, you will incur tax liabilities on the funds withdrawn. Additionally, you may also incur a 10% penalty if you are under the age of 59.5. Therefore, make sure to assess the costs versus the withdrawal before making a decision.

To conclude

Losing a job is undoubtedly a challenging experience that brings about numerous financial concerns. While you may be occupied by the immediate worries of unemployment, it is crucial to not overlook managing your 401(k) retirement savings. Your 401(k) account holds the potential to secure your financial future, and decisions made during times of job transition can significantly impact that future. While focusing solely on immediate financial needs might be tempting, neglecting your 401(k) can lead to long-lasting consequences. Financial decisions are complex, and the intricacies of retirement planning can be overwhelming. This is where a trusted financial advisor can make a difference.

For further information on how to effectively grow and manage your savings for retirement, visit Dash Investments, or email me directly at dash@dashinvestments.com.

Jonathan Dash
Founder and President
Email: info@dashinvestments.com