401K rollovers are always tricky because they come at a time when there’s a lot of change in your life. Hopefully, it’s the result of a voluntary job change – you resigned amicably, you switched jobs, etc. Sometimes, it’s the result of an involuntary job change and those big changes are difficult; there’s no sense lumping on a few more financial mistakes with it right? The number one thing to understand with a 401k rollover is that you can wait. You don’t have to decide right now whether or not you’ll be rolling over your 401k into an independent Rollover IRA. If you have a lot on your plate right now, it pays to wait a little while before making the change.
If you are ready to do the rollover and you’ve analyzed the benefits and drawbacks, three of the five biggest rollover mistakes are:
- Cashing out: Cashing out is the worst possible thing you could do because not only do you pay taxes on the withdrawal but there’s a penalty on top of it. Ignoring the fact that you’re pilfering your future, doing so reduces your money so tremendously that it’s almost never worth it to cash out (that’s the point!).
- Not rolling over: This is a bit of a judgment call because your employer’s plan may not be all that bad, the risk is that you completely forget about it and decisions are made without your knowledge. It’s easy to just let it go on autopilot, especially if you don’t work at the company anymore, so oftentimes it’s better to roll it over to a brokerage and buy their funds. “Out of sight, out of mind” in this case is a bad thing.
- Not directly rolling over the funds. When you rollover, you can have the 401k plan provider write a check directly to your new brokerage, called a trustee-to-trustee rollover; or they can cut you a check and you can write a new one. The second way, the check, is dangerous because you have sixty days to deposit the funds or it’s considered a cashout. One trip through the postal service is certainly better than two trips, especially if the two trips has a time limit with a hugely negative downside.
The two others aren’t as big of a deal, certainly not as bad as the first three, and you can read about David Bach’s take on all of them in this Yahoo Finance article.