Are You on Track to Retire?
According to a recent survey by the Employee Benefit Research Institute, only 13% of workers are "very confident" about having enough savings for a comfortable retirement,¹ which may explain why labor statistics show the average American will hold 11 jobs between the ages of 18 and 44. (Calculate how much you will need to save.)

Of course, there are other explanations for such high turnover, but the reality is that because of the demise of traditional pensions, many people will have to rely on their 401(k) or other defined contribution plans to build a retirement nest egg, unless they fritter it away between jobs. According to a Hewitt Associates survey of employees who changed jobs, 46% cashed out; only 25% rolled their 401(k) into an IRA or a new qualified plan; and 29% left it behind.

Now let's assess the pros and cons of each option, beginning with the most passive.

Staying Put
For some plan participants, leaving behind the money in a 401(k) may seem like the easiest option, at least at first. In fact, a large percentage of workers do just that. After all, changing jobs is very hectic and involves many other decisions, such as moving your family, a new job for your spouse, and new schools for the kids. Moving your 401(k) or other qualified plan balance is time-consuming and can be confusing. By staying put, you won't have to fill out any paperwork, and you will not be subjected to any penalties or early withdrawal taxes. At any rate, you may like your current investments and want to keep them.

The disadvantages, however, are clear: You may lose sight of these assets when you move to a different company and start up a new retirement plan, and, of course, because you are no longer employed, you are unable to make ongoing contributions.

Nest Eggs Over Easy
If you are changing jobs and your new company has a plan that allows transfers, you can roll your current balance into the new company's retirement plan. This is a tax-free transfer (unlike cashing out), so no taxes or penalties will be applied. In addition, you now have more of your retirement assets working together so that you can more closely monitor your account balance and your progress. (Compare the financial impact of rollovers versus cashouts.)

Of course, if you like your current investments and are moving to a plan where you have fewer choices, you may see this as a disadvantage. Also, it is important to note that a rollover may incur administrative costs or other fees. Your financial professional can help you through this process.

Alternatively, you can roll your balance into an IRA (individual retirement account). Similar to the previous option, this is a tax-free transfer, so no penalties will apply. You now have complete control over your retirement assets (which is, for example, especially helpful for portfolio tracking, beneficiary planning, and required minimum distributions [RMDs]), and you potentially have access to a much wider range of choices, including greater flexibility on designating a beneficiary.

Another advantage is that there is no mandatory withholding on IRA withdrawals (as opposed to 20% mandatory federal tax withholdings on qualified plan withdrawals). And there are additional exceptions to the 10% early withdrawal penalty: higher education, first-time homebuyer purchase ($10,000 limit), and medical insurance premiums while unemployed.

You also can combine this with other retirement assets. But if you have had several jobs and participated in a 401(k) or similar plan at each one, it can be cumbersome to keep up with multiple accounts. Further, there may be fees and charges involved with combining accounts.

Meanwhile, you can add to your IRA account ($5,500 per year if younger than age 50 and $6,500 per year if age 50 or older). This contribution also may be tax-deductible, depending on your income, and if you or your spouse is an active participant in an employer-sponsored retirement plan.

Finally, you have the option to convert all or part of your traditional IRA account to a Roth IRA account. This would result in tax consequences, so you should consult with your tax professional before choosing this option.

This is not to say that rolling over to an IRA will avoid potholes. In some cases, for example, paperwork can be confusing. Also keep in mind that:

• Governmental 457(b) plans are not subject to the 10% penalty on withdrawals made before age 59½. However, the penalty reattaches if rolled to an IRA and a subsequent pre–age 59½ withdrawal is taken.
• Distribution from a qualified plan or 403(b) after separation from service during or after the calendar year in which you attain age 55 is exempt from the 10% early withdrawal penalty. (The exemption is not extended to IRAs.)
• Distribution from a qualified plan or 403(b) to a former spouse in the form of a qualified domestic relations order is exempt from the early withdrawal penalty of 10%. (The exemption is also not extended to IRAs.)
• Unlike with 401(k) plans or certain 403(b) assets, IRA participants, beginning at age 70½ must take RMDs, beginning at approximately 3.8% a year (and increasing annually).

Why Cashing Out 401(k)s May Be the Worst Option
As previously mentioned, nearly half of all those who change their jobs cash out their 401(k) balances. While this may seem like a good idea in the very near term (you have some ready cash in hand), this may be a very costly idea in the long run.

There are significant penalties involved with this option. You generally will face a 10% penalty if you are under age 59½, and the amount that you cash out will be subject to ordinary income tax.

But most important, you will lose the potential benefit of tax-deferred compounding on the assets you have accumulated.

Example:
Marie and her husband, Steve, change jobs around the same time. Marie, age 30, has a 401(k) balance of $30,000, while Steve, 45, has a $100,000 balance. (See Table 1.)

If Marie cashes out, she would net $18,600 after paying the 10% early withdrawal penalty and ordinary income tax (assuming she is in the 28% marginal tax bracket). If she were to then invest the remaining balance, assuming an 8% annual rate of return, it could potentially grow to a bit more than $275,000 by the time she is 65 years old.

On the other hand, if she simply leaves the balance alone or rolls to an IRA, her entire balance will continue to benefit from the assumed 8% annual rate of return, potentially growing to $443,460 by age 65. (See Table 2.)

In other words, cashing out would have resulted in a $168,453 mistake!

In addition, if Marie were to roll her $30,000 balance to an IRA, assuming an 8% annual rate of return and then contribute the maximum each year ($5,500 per year from age 30 to 49 and $6,500 per year from age 50 to 65), her account could potentially be worth $1,406,821 at age 65. Call this a $963,361 opportunity.

As for Steve, cashing out after leaving his employer would cost him a total of $38,000 in taxes (assuming he is in the 28% tax bracket) and the 10% early withdrawal penalty, and $177,117 in potential compounding by age 65, as opposed to leaving the balance alone and rolling it into an IRA (assuming an 8% annual rate of return). (See Table 3.)

Like Marie, Steve could further his cause by adding the maximum to his IRA each year ($5,500 per year from age 45 to 49 and $6,500 per year from age 50 to 65, and assuming an 8% annual rate of return), resulting in a total potentially worth $273,266 more than if he rolled his 401(k) into an IRA directly.

[Please note that these hypothetical examples are for illustrative purposes only and are not intended to predict or depict the future performance of any investment. The total values are based on a hypothetical compounded 8% fixed rate of return and assume current tax laws remain in effect throughout. In addition, the examples do not account for inflation or investment fees, which can erode the value of an investment over time. If these factors had been taken into account, the account values would have been lower.]

Are All Your Resources Working Together?
If you are like most people, you have retirement assets in many different places. You may have a company pension and one or more IRAs, as well as traditional investment accounts.

You might want to consider bringing these different accounts together (see "Benefits of Consolidation"). That can help your financial advisor make a recommendation for a balanced allocation, best suited for you, to generate an income stream for you in retirement.

With all your retirement assets in one place, it will be much easier to develop a strategy, assemble your portfolio, monitor performance, and calculate RMDs.

We believe the key to protecting and growing your nest egg starts with consulting a professional—someone who is qualified to guide you through the entire process and help start you on your course for a potentially happy and successful retirement.