Changing Jobs? Don't Forget to Roll Over Your 401(k)

Statistics show that we change jobs an average of 10 times throughout our careers. It's always a bit of a stressful process, even if you're leaving your previous position by choice. Unfortunately, I have one more thing to put on your long list of things to do the next time you swap employers, but you'll thank me later: Roll over your 401(k).

Why? Well, first of all, you don't want to make the mistake I did in my 20s, which was to cash out my 401(k) and hit the stores for a few nice outfits. And, in most cases, you don't want to leave it with your former employer. Rolling your money over into an IRA gives you more control, and very likely more investment options, fewer fees, and overall better performance.

It's a bit of a tricky process, but nothing to shy away from. Here's the low down:

• Determine whether you want to roll over. As I said, the times when it doesn't make sense to roll over are few and far between. Most 401(k) plans have minimal investment options and higher costs, making an IRA a better option.

"It's very rare that an individual would leave an employer and want to keep the money in their 401(k). The only time this happens is if the 401(k) plan has many different investment choices -- meaning usually 30 or more -- the investment performance has been very good, and expense ratios are very low," says Bill Losey, author of Retire in a Weekend. "It's very rare to find all of these things in a 401(k)."

There is one thing to keep in mind: Generally speaking, if you retire at or after age 55, the IRS allows you to take money out of a 401(k) without incurring an early-withdrawal penalty. If you've rolled your money into an IRA, you're out of luck until you're 59 1/2. If you're early in your career, this probably isn't a consideration for you, because once you get another job, you'll likely be able to roll your money into your new company's 401(k). If this is a concern, though, talk to your current plan's administrator.

Note: Whether you can leave money in an old employer's 401(k) -- and whether you can roll money from an IRA into a new employer's 401(k) -- is completely up to the employer. You may not have a choice in the matter.

• Decide where you want to put your money. You have to roll into an IRA, but who houses that IRA is up to you.

"When you leave, you're going to roll over to either a bank, credit union, insurance company, mutual fund company, or big brokerage firm," explains Losey. "It's important that you find a custodian that will give you a whole host of investment options, that are fair in cost or low-cost, and that has had decent investment performance. You also obviously want someone who can answer the phone, answer your questions, and give you good service."

Do a little shopping around, compare fees and investments, and if you're stumped, enlist the help of a fee-only financial advisor. You can find ones who work by the hour, so for relatively little cost, they'll sit down with you and help you get set up.

Once you're in that IRA, you have the option to convert it to a Roth IRA. In 2010, anyone can convert a traditional IRA to a Roth IRA, regardless of income. A Roth allows your money to grow tax-free forever. There are, however, a few downsides: You're required to pay taxes on the amount converted, and, if you make more than $176,000 as a married couple filing jointly or $120,000 as a single filer, you're not eligible to make the maximum contribution to the account. That means while you can convert the cash you currently have saved, you'll have to find a new account, like a 401(k) or another traditional IRA, to continue saving more. I wrote about Roth IRA conversions in more detail in a column on DailyFinance earlier this year.

• Ask for a direct rollover. As you likely know, withdrawing from a 401(k) early costs you big time: 10% right off the top, plus the amount you pulled out is treated as income for tax purposes. If your old 401(k) plan cuts you a check, you're responsible for getting it to the new IRA within 60 days. If you're a day late, or there's a mistake with your paperwork, you could be out of luck.

To avoid the problem, ask your 401(k) plan to send the check directly to your new institution, says Losey. "So if I wanted to go to Fidelity, my current 401(k) might make the check payable to Fidelity for the benefit of me." That way, you know you're safe. Then, when you're completing paperwork, don't be afraid to double- or triple-check it, and ask questions.