Workers in the U.S. who are increasingly job-hopping these days risk making one of the biggest financial mistakes out there.
Their former employers are allowed to dissolve their 401(k)s if the balance is low enough, and send cash either directly back to the workers or roll the money into an IRA that likely has relatively high fees.
Neither’s great, but getting a check is particularly financially dangerous: If ex-employees don’t roll the money into a new employer plan or IRA within 60 days, they face a 10% penalty, owe income tax — and lose the benefit of that money compounding, tax-free, for decades. The last thing someone switching jobs or dealing with a layoff needs is more paperwork.
It’s a problem set to get worse with a more mobile workforce: A full 33% of workers in their 20s opt to cash out their 401(k), according to Vanguard Group’s latest “How America Saves” report, which was released this week.
Only 2% of companies allow ex-employees with under $1,000 in savings to remain in their company’s 401(k) retirement program for some period of time, the report found.
A 2019 report from the Employee Benefits Research estimated that in 2015, some $92.4 billion left the 401(k) system due to cashouts.
Here’s how it would play out: Someone with $900 in their 401(k) would pay a $90 penalty and, likely, about $180 in taxes. That leaves $630.
Instead, if the worker moved it to another retirement plan, assuming a rate of return of 5%, he or she would have $3,796 available to withdraw without penalty at age 59 ½, according to a handy Retirement Clearinghouse cashout calculator.