Can your employer take your 401k if you quit?

If you quit your job and you have a substantial amount saved in your 401(k), you may be wondering what will happen to your 401(k) money. Generally, a 401(k) is tied to your employer, and once you leave, you won't be able to contribute to the account. While the 401(k) money legally belongs to you, there are circumstances when the employer may take part or all of your 401(k).

Your employer may take your 401(k) money if you quit your job before the money is fully vested. If your employer has a vesting schedule, and you quit your job before you have satisfied the vesting schedule, your employer may take the unvested portion of the 401(k) match. Also, if you have defaulted on a 401(k) loan, your employer may offset the unpaid loan against your 401(k) balance. Plan loan offset occurs when there is a permissible distribution event like termination of employment.

Can your employer take your 401(k) if you default on your 401(k)?

If your 401(k) loan is due and you default in making timely loan payments, the 401(k) loan will be considered to be in default. A 401(k) plan may provide that, if the 401(k) is not repaid on time, the account balance may be offset when there is a permissible distribution event such as termination of employment.

A plan loan offset is the unpaid loan balance that reduces your 401(k) balance. Usually, a 401(k) plan may provide that if a 401(k) loan is in default, the unpaid loan balance should be deducted from your 401(k) balance. The plan loan offset is considered an actual distribution, and it may be eligible for rollover to a qualified retirement plan. It can be triggered by distribution events like plan termination, death, or voluntary leaving employment.

Can your employer take your 401(k) back?

Depending on the terms of your 401(k) plan, your employer may take part of or all of the employer contributions that have not vested. Usually, an employer can require employees to complete a certain years of service before they can fully own the portion of employer contributions. If you quit too soon before you are fully vested, your employer can retain part of the matching contributions that have not yet vested.

For example, if the employer has a vesting schedule that vests 20% starting from the second year, it means you have to work in the company for at least 6 years to be fully vested. If you quit your job after the third year, you will only retain 40% of the matching contributions. This means you will be forced to forfeit the remaining 60% of the matching contributions to your employer.

What to do with your 401(k) if you quit

Once you quit your job, you won’t be allowed to make further contributions to the account. However, the 401(k) money is still yours, and you must figure out what to do with the money. Here are some options with the money:

Leave 401(k) with the former employer

If you have more than $5000 in your 401(k), you can let the money stay in the old 401(k). Leaving the 401(k) with the former employer might be a good option if the plan offers unique investment options that you won’t find elsewhere, or the plan charges really low 401(k) fees.

If your balance falls below $5000 but above $1000, and you don’t take action on the money, the employer will transfer the 401(k) money to an IRA. If the balance falls below $1000, the employer will issue you a check with your 401(k) balance. However, if you are not impressed with the plan investment options or fees, you should consider other options.

Rollover to a new 401(k)

If you quit your job for another employer, you should check if your new employer has a 401(k) plan and when you are eligible to participate. Some employers may require new employees to complete a certain period of service to be eligible to join the plan. Once you are eligible, you should request a direct rollover from your former employer to the new 401(k). You will be required to fill out some paperwork with the former employer, and provide your new 401(k) details for the transfer to be effected.

Rollover to an IRA

If the new employer doesn’t offer a 401(k) plan, you can decide to rollover the old 401(k) to an IRA. An IRA offers more investment options than a 401(k), and you can pick investment options with the lowest risks. Unlike a 401(k), you won’t be restricted to a pre-selected list of investments.

Withdraw money

Once you are 59 ½ or older, you can start taking penalty-free distributions from your 401(k). Since a 401(k) is funded with pre-tax contributions, you will be required to pay income taxes on any distributions you take. If you are not yet 59 ½, you will pay a 10% penalty in addition to the ordinary income tax. An exemption is if you are 55 when you quit your job; you will be allowed to take penalty-free distributions from the 401(k), but you will still owe taxes on the distribution.  

If you have not yet attained the full retirement age, retirement experts discourage taking a withdrawal. Making an early withdrawal from your 401(k) creates the need to start all over saving for retirement. Instead of taking a step backward in your retirement savings journey, you should let the retirement money continue growing and avoid withdrawing money for non-retirement purposes.