When you leave an employer, you have various options for what to do with your retirement account. (UBS)

Option 1: Withdraw the money as a lump sum

When you cash out of a retirement account, the money is sent to you directly. This means that you can deposit the funds in your bank account and spend the money however you'd like. But, you won't be able to spend it all. That's because, generally speaking, you'll owe 20% mandatory withholding for income taxes and possibly a 10% penalty if you weren't at least age 55 when you left that job. What's more, you may end up owing more money to the IRS when you file your taxes depending on your income level.

Option 2: Leave the money in your plan

Generally speaking, if your balance is over USD 5,000 in your employer-sponsored retirement plan, then you're able to keep the money where it is. Balances left in a plan that are below the USD 5,000 threshold are typically "forced out," which means the funds would be cashed out and sent to you via a check in the mail if you do not take action. This would likely result in the same taxes and penalty mentioned above in Option 1.

Option 3: Roll over to your new employer plan

If you've moved to a new job and are eligible to participate in their 401(k) plan, you may be able to roll your existing account into the new plan. While the money would be cashed out of your old plan, you won't be subject to the taxes and penalties described above (Option 1) as long as the funds are rolled directly over to the new plan. This means the dollars will be able to maintain their tax-deferred status in the new plan until they are distributed in retirement.

Option 4: Roll over to a Traditional IRA or Roth IRA

Similar to rolling an old 401(k) to a new employer's plan, rolling it into a Traditional IRA allows the funds to maintain the same tax-deferred status. And, if you roll an old Roth 401(k) into a Roth IRA, the assets will continue to grow in a tax-free environment.

You also have the option to roll a traditional 401(k) into a Roth IRA. However, this is considered a "Roth conversion" and is a taxable event. The tax burden of a Roth conversion is based off of the taxable portion of your traditional IRA or 401(k), which is the amount in excess of any nondeductible (after-tax) contributions.

What should you do?

If you're considering leaving the money in the plan, keep in mind that your vesting is based on your length of service, not how long the money has been in the account—if you aren’t fully vested when you leave that job, then you forfeit the dollars that are unvested. So, unless the fees are significantly lower than your other options or you prefer that plan's investment lineup, there's typically no significant benefit to stay in the plan in comparison to a new employer's plan.

Additionally, it's important to note that as a former employee, you won't be able to continue contributing to the plan. This doesn't mean that you cannot or should not contribute to a new employer's plan or an IRA (if applicable). But, your 401(k) contributions, up until you separated from service, occurred automatically. In order to stay on track for your retirement goals, you'll need to continue saving for retirement elsewhere.

For more, see Modern Retirement Monthly: What should you do with your old 401(k) plan? 3 Sept. 2020.