Why are more employers kicking out former employees from their 401(k) plans? It is simple: Cost.
Most company retirement plans are designed so that the participants bare the investment cost and a portion of the administrative cost, while the employer bares the remaining administrative cost. A company is still responsible for the administrative costs for a participant that no longer provides any service for that company. Therefore, if a plan has a number of terminated employees with balances in the plan, it can be both expensive and an administrative burden for the human resources department to track these employees.
Think of a company retirement plan (i.e., 401(k), Profit Sharing Plan, Pension, etc.) as its own entity. Most HR departments keep updated records on their current employees. Most terminated employees, however, do not think to let their former employers know when they have a change in contact information. If you have assets in a company-sponsored plan, you are treated as a participant in that plan. This means the required annual disclosures must be made to terminated employees and current employees alike.
HR departments often find it difficult to deliver the required Department of Labor disclosures because they do not have accurate email and mailing addresses for terminated employees. Unfortunately for the HR departments, there are a lot of disclosures that need to be sent to participants on an annual basis. While an HR department can easily send a companywide email to the current workforce, they must attempt to track down and distribute disclosures to terminated employees on an individual basis in most cases.
In addition to the administrative burden, terminated employees with balances in the plan can cause a plan to require an annual audit. These audits are not cheap, and the company must bare this cost. Any individual with a balance in the plan is defined as a participant in the plan regardless of whether they are actively deferring. If a plan has more than 100 participants, it is most likely going to be required by law to have an annual audit. Terminated employees with assets in the plan count towards this number. Therefore, it’s often in the company’s financial interest to force out terminated employees to avoid crossing the audit threshold. Additionally, plan pricing can improve if terminated employees with low balance are forced from the plan. Most 401(k) vendors price plans based on the average account balances. Take the total assets in the plan and dividend them by the number of people with balances in the plan. The higher the average account balance, the better the plan’s pricing. It is administratively easier to manage one participant with a $1,000,000 account than it is to manage 10 participants with $100,000 or 100 participants with $10,000. Forcing terminated employees with small balances from the plan can improve the plan’s pricing for current employees.
Where Does the Money Go if You Are Forced from a Retirement Plan?
If you have less than $1,000 in the plan, the plan can mail you a check. This is a taxable event, and if you are not 59.5, you might have to pay a 10% penalty. If you have between $1,000 and $5,000 in your account, the plan can roll your assets to an IRA administered by a third-party custodian. If the plan does not have up-to-date contact information for you, you might not even be aware that your assets have been moved. Your new IRA custodian should make an attempt to locate you, but they will very likely charge you for this service. Your new fees can eat into your savings rather quickly.
If you have more than $5,000 in the plan, the law does not allow the plan to force you out.
What are Some Reasons for Keeping Your Money in a Former Employer’s 401(k) Plan?
- If you are retiring between ages 55 and 59½, you might be able to start withdrawing assets from the plan without having to pay the 10% early withdrawal penalty.
- The former employer’s plan may have access to lower cost institutional class investments as a result of the plan’s purchasing power, which you could not purchase on your own. However, with the invention of ETFs and no-load mutual funds, this scenario should be rare.
Once you terminate your employment, you will not have access to loans, if the plan allows for them. If you keep your assets in your former employer’s plan, you should keep the HR department abreast of any changes to your contact information. Plans tend to change vendors every three to five years. If the plan does not have your contact information when it makes a vendor change, your assets could be defaulted to another investment option during the change. Surprisingly, this is legal. It is your responsibility to keep your information current. The plan will make a reasonable attempt to contact you, but they will not likely move heaven and Earth to find you.
We suggest that you move your assets to an IRA custodian of your choosing or roll your assets into your new employer’s 401(k) plan. Generally, these are the best options for all parties involved.
At Henssler Financial we believe you should Live Ready, which includes taking your retirement savings with you when you leave a company. If you have questions regarding your old 401(k) plans, the experts at Henssler Financial will be glad to help. You may call us at 770-429-9166 or email at experts@henssler.com.
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