When former employees leave behind their 401(k) accounts, the choice has ramifications for both the previous employer and the worker, retirement experts say.

Consider, for example, research from Charles Schwab shows 43% of assets held by 401(k) participants who left their jobs in the first quarter of 2008 had not been moved a year later.

For employers, providing counseling to plan participants on their options for retirement savings once they leave can build up (or break down) a company's reputation.

"Former employees talk to current employees. If former workers can speak highly of a employer helping them to make a smart decision on whether to keep the money in the plan , roll it over into an individual retirement account or into the their new employer's plan, then that creates good will," says Dean Kohmann, vice president of 401(k) plan services at Charles Schwab. "It is hard to go wrong by doing what is in the best interests of both the current and former employees." Making employees more aware of their options helps them as well.

Retirement analysts strongly discourage job-changers from taking cash distributions from a 401(k) plan since for participants under age 59, cashing out means a 10% tax penalty from the federal government plus income taxes on the disbursement. Further, experts say that workers and employers must understand that once the money is cashed out of a 401(k) for 60 days, it can no longer be rolled into an IRA or new employer's plan.

Administrative considerations for sponsors

Although experts advise employers to help former employees understand their retirement plan options, plan sponsors have the double-edged sword of bearing the administrative burden should low-balance participants choose to keep their assets in the plan rather than roll it over.

Maintaining low-balance, dormant 401(k) accounts can carry a hefty administrative cost, which means the remaining participants or the plan sponsors will have to pick up the tab, says Barbara Fallon-Walsh, head of Vanguard's institutional retirement plan services.

When a former employee carries a low-balance account under $5,000, most plan sponsors would prefer that the worker either roll over the funds in an IRA or transfer the money to his or her new employer's 401(k) plan.

On the other hand, plan sponsors may prefer to keep retirees' accounts, which are usually high-balance accounts, to defray some plan costs. Some plan sponsors, however, would rather that their retirees make a decision about the next steps with their money, especially as they get closer to required minimum distribution age.

Overall, employers prefer critical mass because it strengthens institutional buying power, says Kevin Crain, head of plan participant solutions at Bank of America Merrill Lynch. Participants staying in the plan gives many employers a level of institutional buying power in the cost of investment structure and plans services, he adds.

Ramifications for participants

"Employees who leave the company do not have to make the decision right away," says Fallon-Walsh, adding that it may benefit participants to remain in a former employer's retirement plan -- particularly if they have access to financial advice and/or is part of a managed-account program. Those services might be difficult to replicate once the worker leaves the plan, she points out.

Workers over age 55 will also probably have a full-service relationship with the 401(k) plan services provider regarding financial planning advice. "But of course, you give that up if you leave the plan," she says.

In addition, explains Rene Kim, Charles Schwab senior vice president, a 401(k) with a new employer will generally have far less investment flexibility, compared to an IRA. The new employer's plan, however, could have greater access to institutionally priced investments that can be more commonly available to investors in larger workplace retirement plans.

During distressed financial markets, former employees may decide to leave the account with their old employer due to a sense of psychological comfort, says Bob Wuelfing, president of RG Wuelfing & Associate and the SPARK Institute.

Yet the considerations are important ones since, "people who leave money in a previous employer's 401(k) plan often forget the money is even there, which can result in asset allocations falling way off balance based on an individual's savings objectives and risk tolerance," says Kim. --L.C.B.

Wait, don't forget your 401(k)!

According to the Schwab data, 57% of assets held by 401(k) participants who left their job in the first quarter of 2008 had been distributed from former employers' plans by the end of the first quarter 2009. Of those distributed assets:

* 75% of assets were rolled over into IRAs.

* 14% of assets were taken in cash distributions.

* 7% of assets were moved into new employer plans.

* 4% of assets were taken in other forms of distributions.

As with an employer-sponsored retirement savings plan, a rollover IRA allows individuals to keep retirement assets invested in a tax deferred account, but with two additional advantages.

First, an IRA usually offers greater investment flexibility including mutual funds, stocks, and bonds, as opposed to a 401(k) that is usually limited to a smaller core line up of investment choices chosen by an employer. Second, an IRA can provide greater flexibility when people are ready to start receiving retirement income.

Some of the advantages of moving retirement savings into a new employer's plan include the ability to avoid current income taxes and potential penalties by keeping retirement savings invested. It also enables savings to continue to grow on a tax-deferred basis and provides the simplicity of having 401(k) savings consolidated in one workplace plan.

Source: Charles Schwab