Feb 29, 2020 3 min read

When you leave a job, your 401(k) plan balance can accompany you. You may be tempted to keep some or all of the money instead of rolling it over, but that may not be the best option.

If you cash out your 401(k) plan balance, you generally pay income taxes due on the entire amount withdrawn, as well as a 10% penalty tax – unless you are at least 59 ½ years old or unless you are retiring from your employer at age 55 or older.

If, however, you want to keep the money in place for retirement, a good strategy to consider is rolling the funds over into an individual Retirement Account, or IRA.

The process is simple:

1. Find an IRA investment appropriate for you (such as an annuity, bank certificate of deposit or a mutual fund). You will have to do research or talk with someone in the financial industries to find out which options are right for you.

2. Contact the administrator of your former employer’s plan and arrange the direct rollover to the custodian of your new IRA. The exact procedure may vary a little from company to company, but don’t worry – they’ve all dealt with this request before.

3. Sign documents to directly roll over funds to your new account. The funds then will arrive in your IRA for investment as you chose in step 1.

A word of caution: You can receive a distribution of your account balance from the plan instead of arranging for a direct rollover. This might not be the best idea. If you take a distribution, the plan administrator will have to withhold 20% of the distributable amount for federal income taxes. That is a credit toward taxes that may be due when you do your income tax return.

When you do this indirect rollover, you can increase the rollover amount, from your own funds, equal to the 20% withholding amount.

Doing a direct rollover, however, avoids this negative consequence. If you roll over the amount of the check you receive, without adding that 20% back, then the amount withheld will be treated as a taxable distribution. You will generally have to pay income taxes on that amount as well as a 10% penalty tax if you are younger than 50 ½.

A final word of caution: Whatever investment you chose to roll your retirement plan into, make sure you review it. What was appropriate today may not be appropriate five years from today.

Look at all your savings, and make sure your total investment portfolio reflects the risk you are willing to take now. As we get closer to retirement age, reducing risk and looking for security is a responsible thing to do.

If you want to know what your savings will be worth 10 or 20 years from now, here is a link to a retirement calculator www.statefarm.com/simple-insights/retirement/calculate-the-future-value-of-your-retirement-savings hope it helps.

Bob Hollick is a State Farm Insurance agent based in Washington.

To submit columns on financial planning, investing or business-related matters, email Rick Shrum at rshrum@observer-reporter.com.