What to do with Your 401(k) at Retirement

So, the day has finally come for you to call it quits.

What should you do with your 401(k) at retirement? Most people don’t know because they spent years and years building up their 401(k) accounts, but the focus was on accumulation (not on using the money). They’re like climbers at the summit of Mount Everest who have focused on and worked toward a difficult goal, but now they have to come back down – and the descent is the most dangerous part. Like tired climbers stumbling down a mountain, retirees have a lot to lose: they’ve built up large balances by the time retirement comes around, and mistakes now are costly.

There are several things you can do with your 401(k) savings at retirement. The best choice for you depends on what you need, and any risks you’re concerned about.

Roll It Over

One of the simplest things you can do is to roll your 401(k) over to an individual retirement account (IRA) when you retire. This allows you to take control of your money while keeping your options open. You can leave your money in the IRA as long as you want (or until the IRS forces you to take it out) – why spend it if you don’t need it?


You made it! Now how do you get down?

The best way to do this is to move your funds into a diversified mix of investments. Those can be risky investments or conservative investments, depending on your needs, but it’s generally not a good idea to take too much risk if you plan to spend the money soon. Any decent mutual fund company, brokerage house, or financial planner can set an account up for you.

How do you get the money out? If you want to spend some of your savings, you can typically just call and ask for money (verify how the process works, how easy it will be, and any expenses involved before you open an account). You can take out little bits at a time for occasional expenses, or you can set up an automatic monthly transfer from your IRA to your checking account.

No matter how you choose to take your money out, make sure that you develop a plan for what to do with your 401(k) after retirement. It’s important that that money lasts for the rest of your life. There are rules of thumb out there (such as the 4% rule), but you’ll be better off if you actually crunch some numbers. Especially at the beginning of your retirement, mistakes and market crashes can be costly. If you’re not comfortable doing it yourself, seek out a Certified Financial Planner who can do it for you.

Note that you might not want to roll your 401k over at retirement if you’re between the ages of 55 and 59.5 when you retire. For more details on when it does and doesn’t make sense, see How and Why to Transfer Your 401k to an IRA.

Bucketize It

A bucket strategy is another approach for your 401(k) savings. It is similar to rolling everything over to an IRA, but slightly different: you’ll divide your assets into “buckets” of money (you might divide the money by actually using separate accounts, or you might just keep track of the separate buckets on paper).

The idea behind a bucket strategy is to invest your long-term money for growth, and to keep your short-term money safe. So, the money you’ll spend in your first few years of retirement might be invested in conservative investments such as cash and CDs at the bank, or it might come to you in the form of fixed annuity payments. Meanwhile, the money that you don’t need to spend for another 10 years or more can be invested in mutual funds that take on more risk.

With a bucket approach, it’s always easy to see how your money is doing while keeping your time horizon in mind. If the stock markets crash, you’ll have peace of mind knowing that your safe money is unaffected and that you can still take income for several more years without taking losses.

Annuitize It

Setting up a lifetime income stream is another option for your 401(k) after retirement. Using an annuity, you can “purchase” a stream of payments from an insurance company. Those payments can last for a set number of years or for the rest of your life (no matter how long or short that happens to be).

Using an annuity can also offer some peace of mind. You don’t have to worry about investing the money – that’s the insurance company’s problem. However, everything comes at a price: if you use fixed annuities, you often lose control of your money, and you might have a hard time keeping up with inflation. If you use variable annuities, you still have exposure to market risk, and you may be paying high fees.

While salespeople may disagree, researchers seem to think that annuities are only appropriate for some portion (if any) of your 401(k) savings. As with investing in general, it’s never a good idea to put too many eggs in one basket.

Cash Out

Of course, you can always cash out your 401(k) at retirement. Your former employer can cut you a check, and you can deposit the funds in the bank. However, most people don’t do this: keeping your money in some type of retirement account (whether it’s a 401(k) or an IRA) allows you to hold off on paying taxes – especially if most of your 401(k) money is pre-tax, which is likely the case for most baby boomers.

If you cash out, any pretax money will be treated as income, which means it will increase your taxable income for the year – possibly by a lot. If you don’t need it all at once, you might benefit from taking out a little bit each year. Talk with a tax preparer to figure out what the consequences are before you cash out or make any withdrawals.

Leave It Alone

In some cases, it makes sense to leave your 401(k) with your former employer after retirement. This is especially true if you are fortunate enough to have an extremely inexpensive and robust 401(k) plan at work. You might not be able to do any better elsewhere.

While leaving your money where it is can be easy, some problems can arise. Keep in mind that your employer still controls the money, so you might not have as much flexibility as you’d like if you need to spend your money. If your former employer is involved in certain types of mergers or investigations, the money may be locked up until everything settles – and that might be exactly when you need it. If you have traditional (pre-tax) money in the plan, you may eventually have to take some out to satisfy IRS rules for required minimum distributions (RMDs).

Photo credit: Darcy McCarty