Avoid This Costly 401(k) Rollover Mistake That Could Wreck Your Retirement Savings

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Millions of Americans are approaching retirement age, and with that milestone comes critical decisions about retirement savings. One of the most expensive mistakes people make when changing jobs or retiring is mishandling their 401(k) rollover. This error costs Americans billions of dollars in lost investment growth, unnecessary taxes and penalties every year.

Why does this 401(k) mistake happen, and how can you make sure it doesn’t happen to you before retirement? Here are a few takeaways and strategies to avoid this common 401(k) rollover mistake that costs Americans billions of dollars.

Why Properly Rolling Over Your 401(k) Matters

When you leave a job, your 401(k) doesn’t automatically follow you. Many workers either cash out their retirement savings or leave funds in an old employer’s plan without realizing the consequences. Cashing out triggers immediate taxes and often a 10% early withdrawal penalty, while leaving funds behind can mean higher fees and limited investment options.

Simply put, once you move on from a job where you had a 401(k), you also should move those funds out of your employer’s retirement plan and put them in a suitable portfolio or other investment. Not doing so is a big mistake.

For some employees, setting up a 401(k) is a one-and-done affair. They can choose a contribution rate and pick an investment, typically a self-managing target date fund. Rolling over a 401(k) takes effort and planning — but it’s worth it.

Just Roll Your 401(k) Balance Over to an IRA

The best way to make sure you are taking advantage of all the retirement money afforded to you is to roll over the 401(k) balance into an IRA. This means the check is made out to the new IRA custodian, so no taxes are withheld. It also gives you control over investment options and usually lower fees. 

In fact, rolling over your 401(k) to an IRA is one of the smartest moves you can make. Here are a few key takeaways as to what an IRA typically offers:

• Lower fees
• Greater investment flexibility
• More control over your retirement portfolio

Remember, the key is to do a direct rollover via a new IRA custodian, helping you avoid the 20% withholding tax and penalties. If you take the check yourself, you risk costly mistakes.

Experts also advise keeping money in your account if you’re retiring before 60. So, for those planning to take distributions before age 59 1/2, leaving some funds in the old 401(k) could make sense to avoid the 10% early withdrawal penalty. 

Do Not Cash Out Your 401(k)

Across the board, experts will tell you that cashing out your 401(k) would cause the most damage and put your retirement planning in severe jeopardy. Simply put, cashing out your retirement savings is the worst option as it would result in immediate taxation and penalties, as well as permanently reducing your retirement nest egg. Instead, keep your money invested and growing for the future.

Final Take To Go: Do Your Rollover Homework

The bottom line is that a proper 401(k) rollover can protect your retirement savings, reduce fees and maximize your ability to grow your wealth. Avoid cashing out, and research your options carefully. Look for investments that match your risk tolerance and retirement timeline.

If you feel overwhelmed, consult a financial advisor. Many brokers offer tools to simplify the process, and professional guidance can help you avoid costly mistakes, so don’t forget to put your nest eggs in different baskets. 

J. Arky contributed to the reporting for this article.

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