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What to do With Your 401(k) if You Lose Your Job

Perhaps you are one of the thousands who lost their job during this economic downturn. Or, you're thinking that you'll be laid off and you're wondering how to plan for it. Once you've been laid off, you are not allowed to make contributions to your 401(k). Depending on your company's vesting policy, it's possible you could lose some of the employer's contributions that are in your 401(k).

FIRST, DON'T CASH IN YOUR 401(K).  This should be your last choice.  Generally, any distribution from your 401(k) that you receive before age 59 is considered an early distribution. Those early (or premature) distributions are subject to a federal 10% early withdrawal penalty in addition to any federal and state income taxes due. In addition, if you withdraw the money, it will no longer grow tax-deferred.

SECOND, DO NOTHING. If you have $5000 or more in your 401(k), it may be possible to leave your money where it is. Unfortunately, you will not be able to add money to the account, you will not receive any matching money from the company, and you will not be allowed to borrow from the account. In any case, this is a good option because the money will still grow tax-deferred.

THIRD, DO A ROLLOVER. When you find a new job, you may be able to roll over your 401(k) to your new employer's plan. This depends on the company and whether its plan allows for rollovers. Another option is to do a direct or indirect rollover to an IRA. You can roll over your money into a variety of investments, including stocks, bonds, mutual funds, and CDs. Doing a direct rollover saves you the taxes you would incur if you cashed out your 401(k). Indirect rollovers are a little more complicated and you could end up paying taxes on part of the funds.

If you haven't lost your job, but think you might, we advise that you immediately begin an emergency fund that is separate from your 401(k). Having 3 month's salary saved up is always a good idea. Another must is to reduce your expenses. One good way to do that is to refinance your home. With the low interest rates in effect, now is a good time to reduce your monthly payments by refinancing.

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