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Q: What Is Tax Loss Harvesting?

The way tax loss harvesting—also known as tax loss selling—works is that an investor will sell off assets that have dropped in value as a way to offset the capital gains taxes they owe on the profits of investments that they’ve sold. Tax loss harvesting can even be used to offset as much as $3,000 in non-investment income. But to do so, an investor has to deduct their losses against capital gains first, before they can apply it to their ordinary income.

Dec

2025

A woman looks over financial charts while standing at a table.

Guide to Tax-Loss Harvesting

By MP Dunleavey | Investing, Terminology | Comments Off

Table of Contents

What Is Tax-Loss Harvesting?
How Tax-Loss Harvesting Works
Tax-Loss Harvesting Example
Considerations Before Using Tax-Loss Harvesting
How to Use Tax-Loss Harvesting to Lower Your Tax Bill
How Much Can You Write Off on Your Taxes?
Benefits and Drawbacks of Tax-Loss Harvesting
Creating a Tax-Loss Harvesting Strategy

Tax-loss harvesting is a strategy that enables an investor to sell assets that have dropped in value as a way to offset the capital gains tax they may owe on the profits of other investments they’ve sold.

Thus, using a tax-loss harvesting strategy enables investors to use investment losses to offset investment gains, and potentially lower the amount of taxes they owe. While a tax loss strategy — sometimes called tax-loss selling — is often used to mitigate the tax on short-term capital gains, tax-loss harvesting can also be used to offset long-term capital gains.

Of course, as with anything having to do with investing and taxes, tax-loss harvesting is not simple. In order to carry out a tax-loss harvesting strategy, investors must adhere to specific IRS rules and restrictions.

Key Points

• Tax-loss harvesting is a strategy whereby investment losses can be used to offset gains.

• Using a tax-loss strategy can be beneficial because it effectively lowers profits and potentially reduces investment taxes owed.

• When you sell investments at a profit, either long- or short-term capital gains tax apply.

• Short-term capital gains tax rates apply to investments held for a year or less; long-term capital gains rates, which are more favorable, apply to those held for over a year.

• You can only apply tax losses that have been realized, e.g., losses that result from the sale of the asset.

• IRS rules regarding this strategy are complex and may require the help of a professional.

🛈 Currently, SoFi does not provide tax loss harvesting services to members.

What Is Tax-Loss Harvesting?

Tax-loss harvesting effectively harvests losses to cancel out a commensurate amount in profit, and help investors avoid being taxed on those gains. As a basic example of how tax-loss harvesting works: If an investor sells a security for a $25,000 gain, and sells another security at a $10,000 loss, the loss could be applied so that the investor would only see a capital gain of $15,000 ($25,000 – $10,000).

This can be a valuable tax strategy for investors because you owe capital gains taxes on any profits you make from selling investments, like stocks, bonds, properties, cars, or businesses. The tax only applies when you profit from the sale and realize a profit, not for simply owning an appreciated asset.

And again, if you also realize some investment losses for the same period, those can be used to reduce the amount of your taxable gains.

How Tax-Loss Harvesting Works

In order to understand how tax-loss harvesting works, you first have to understand the system of capital gains taxes.

Capital Gains and Tax-Loss Harvesting

As far as the IRS is concerned, capital gains are either short term or long term:

• Short-term capital gains and losses are from the sale of an investment that an investor has held for one year or less.

• Long-term capital gains and losses are those recognized on investments sold after one year.

Understanding Short-Term Capital Gains Rates

The one-year mark is crucial, because the IRS taxes short-term investments at an investor’s marginal or ordinary income tax rate, which is typically higher than the long-term rate.

There are seven ordinary tax brackets: 10%, 12%, 22%, 24%, 32%, 35%, and 37%.

For high earners, gains can be taxed as much as 37%, plus a potential 3.8% net investment income tax (NIIT), also known as the Medicare tax. That means the taxes on those short-term gains can be as high as 40.8% — and that’s before state and local taxes are factored in.

Understanding Long-Term Capital Gains Rates

Meanwhile, the long-term capital gains taxes for an individual are simpler and lower. These rates fall into three brackets, according to the IRS: 0%, 15%, and 20%.

Here are the rates for tax year 2025 (typically filed in early 2026), as well as for tax year 2026 (usually filed in early 2027), by income and filing status.

2025 Long-Term Capital Gains Tax Rate

Capital Gains Tax Rate	Income – Single	Married, filing separately	Head of household	Married, filing jointly
0%	Up to $48,350	Up to $48,350	Up to $64,750	Up to $96,700
15%	$48,351 – $533,400	$48,351 – $300,000	$64,751 – $566,700	$96,701 – $600,050
20%	More than $533,400	More than $300,000	More than $566,700	More than $600,050

Source: Internal Revenue Service

2026 Long-Term Capital Gains Tax Rates

Capital Gains Tax Rate	Income – Single	Married, filing separately	Head of household	Married, filing jointly
0%	Up to $49,450	Up to $49,450	Up to $66,200	Up to $98,900
15%	$49,451– $545,500	$49,451 – $306,850	$66,201 – $579,600	$98,901 – $613,700
20%	More than $545,500	More than $306,850	More than $579,600/td>	More than $613,700

Source: Internal Revenue Service

As with all tax laws, don’t forget the fine print. As noted above, the additional 3.8% NIIT may apply to single individuals with a modified adjusted gross income (MAGI) of $200,000 or married couples filing jointly, with a MAGI of at least $250,000.

Also, long-term capital gains from sales of collectibles (e.g., coins, antiques, fine art) are taxed at a rate of 28%. This is separate from regular capital gains tax, not in addition to it. However, NIIT may apply here as well.

Short-term gains on collectibles are taxed at the ordinary income tax rate, as above.

Rules of Tax-Loss Harvesting

Given that investors selling off profitable investments can face a stiff tax bill, that’s when they may want to look at what else is in their portfolios. Inevitably, there are likely to be a handful of other assets such as stocks, bonds, real estate, or different types of investments that lost value for one reason or another.

While tax-loss harvesting is typically done at the end of the year, investors can use this strategy any time, as long as they follow the rule that long-term losses apply to long-term gains first, and short-term losses to short-term gains first.

Bear in mind that although a capital loss technically happens whenever an asset loses value, it’s considered an “unrealized loss” in that it doesn’t exist in the eyes of the IRS until an investor actually sells the asset and realizes the loss.

The loss at the time of the sale can be used to count against any capital gains made in a calendar year. Given the high taxes associated with short-term capital gains, it’s a strategy that has many investors selling out of losing positions at the end of the year.

Tax-Loss Harvesting Example

If you’re wondering how tax-loss harvesting works, here’s an example. Let’s say an investor is in the top income tax bracket for capital gains. If they sell investments and realize a long-term capital gain, they would be subject to the top 20% tax rate; short-term capital gains would be taxed at their marginal income tax rate of 37%.

Now, let’s imagine they have the following long- and short-term gains and losses, from securities they sold and those they haven’t:

Securities sold:

• Stock A, held for over a year: Sold, with a long-term gain of $175,000

• Mutual Fund A, held for less than a year: Sold, with a short-term gain of $125,000

Securities not sold:

• Mutual Fund B: an unrealized long-term gain of $200,000

• Stock B: an unrealized long-term loss of $150,000

• Mutual Fund C: an unrealized short-term loss of $80,000

The potential tax liability from selling Stock A and Mutual Fund A, without tax-loss harvesting, would look like this:

• Tax without harvesting:
($175,000 x 20%) + ($125,000 x 37%) = $35,000 + $46,250 = $81,250

But if the investor harvested losses by selling Stock B and Mutual Fund C (remember: long-term losses apply to long-term gains first, and short-term losses to short-term gains first), the tax picture would change considerably:

• Tax with harvesting:
(($175,000 – $150,000) x 20%) + (($125,000 – $80,000) x 37%) = $5,000 + $16,650 = $21,650

Note how the tax-loss harvesting strategy not only reduces the investor’s tax bill, but potentially frees up some money to be reinvested in similar securities (restrictions may apply there; see information on the wash sale rule below).

💡 Quick Tip: It’s smart to invest in a range of assets so that you’re not overly reliant on any one company or market to do well. For example, by investing in different sectors you can add diversification to your portfolio, which may help mitigate some risk factors over time.

Considerations Before Using Tax-Loss Harvesting

As with any investment strategy, it makes sense to think through a decision to sell just for the sake of the tax benefit because there can be other ramifications in terms of your long-term financial plan.

The Wash Sale Rule

For example, if an investor sells losing stocks or other securities they still believe in, or that still play an important role in their overall financial plan, then they may find themselves in a bind. That’s because a tax regulation called the wash sale rule prohibits investors from receiving the benefit of the tax loss if they buy back the same investment too soon after selling it.

Under the IRS wash sale rule, investors must wait 30 days before buying a security or another asset that’s “substantially identical” to the one they just sold. If they do buy an investment that’s the same or substantially identical, then they can’t claim the tax loss.

For an investment that’s seen losses, that 30-day moratorium could mean missing out on growth — and the risk of buying it again later for a higher price.

Matching Losses With Gains

A point that bears repeating: Investors must also pay attention to which securities they sell, in order to execute a tax-loss strategy successfully. Under IRS rules, like goes with like. So, long-term losses must be applied to long-term gains first, and the same goes for short-term losses and short-term gains. After that, any remaining net loss can be applied to either type of gain.

How to Use Net Losses

The difference between capital gains and capital losses is called a net capital gain. If losses exceed gains, that’s a net capital loss.

• If an investor has an overall net capital loss for the year, they can deduct up to $3,000 against other kinds of income — including their salary and interest income.

• Any excess net capital loss can be carried over to subsequent years (known as the tax-loss carryforward rule) and deducted against capital gains, and up to $3,000 of other kinds of income — depending on the circumstances.

• For those who are married filing separately, the annual net capital loss deduction limit is only $1,500.

How to Use Tax-Loss Harvesting to Lower Your Tax Bill

When an investor has a diversified portfolio, every year will likely bring investments that thrive and others that lose money, so there can be a number of different ways to use tax-loss harvesting to lower your tax bill. The most common way, addressed above, is to apply capital losses to capital gains, thereby reducing the amount of tax owed. Here are some other strategies:

Tax-Loss Harvesting When the Market Is Down

For investors looking to invest when the market is down, capital losses can be easy to find. In those cases, some investors can use tax-loss harvesting to diminish the pain of losing money. But over long periods of time, the stock markets have generally gone up. Thus, the opportunity cost of selling out of depressed investments can turn out to be greater than the tax benefit.

It also bears remembering that many trades come with trading fees and other administrative costs, all of which should be factored in before selling stocks to improve one’s tax position at the end of the year.

Tax-Loss Harvesting for Liquidity

There are years when investors need access to capital. It may be for the purchase of a dream home, to invest in a business, or because of unforeseen circumstances. When an investor wants to cash out of the markets, the benefits of tax-loss harvesting can really shine.

In this instance, an investor could face bigger capital-gains taxes, so it makes sense to be strategic about which investments — winners and losers — to sell by year’s end, and minimize any tax burden.

Tax-Loss Harvesting to Rebalance a Portfolio

The potential benefits of maintaining a diversified portfolio are widely known. And to keep that portfolio properly diversified in line with their goals and risk tolerance, investors may want to rebalance their portfolio on a regular basis.

That’s partly because different investments have different returns and losses over time. As a result, an investor could end up with more tech stocks and fewer energy stocks, for example, or more government bonds than small-cap stocks than they intended.

Other possible reasons for rebalancing are if an investor’s goals change, or if they’re drawing closer to one of their long-term goals and want to take on less risk.

That’s why investors check their investments on a regular basis and do a tune-up, selling some stocks and buying others to stay in line with the original plan. This tune-up, or rebalancing, is an opportunity to do some tax-loss harvesting.

How Much Can You Write Off on Your Taxes?

If capital losses exceed capital gains, under IRS rules investors can then deduct a portion of the net losses from their ordinary income to reduce their personal tax liability. Investors can deduct the lesser of $3,000 ($1,500 if married filing separately), or the total net loss shown on line 21 of Schedule D (Form 1040).

In addition, any capital losses over $3,000 can be carried forward to future tax years, where investors can use capital losses to reduce future capital gains. This is known as a tax loss carryforward. So in effect, you can carry forward tax losses indefinitely.

To figure out how to record a tax loss carryforward, you can use the Capital Loss Carryover Worksheet found on the IRS’ Instructions for Schedule D (Form 1040).

Benefits and Drawbacks of Tax-Loss Harvesting

While tax-loss harvesting can offer investors some advantages, it comes with some potential downsides as well.

Benefits of Tax-Loss Harvesting

Obviously the main point of tax-loss harvesting is to reduce the amount of capital gains tax on profits after you sell a security.

Another potential benefit is being able to literally cut some of your losses, when you sell underperforming securities.

Tax-loss harvesting, when done with an eye toward an investor’s portfolio as a whole, can help with balancing or rebalancing (or perhaps resetting) their asset allocation.

As noted above, investors often sell off assets when they need cash. Using a tax-loss harvesting strategy can help do so in a tax-efficient way.

Drawbacks of Tax-Loss Harvesting

While selling underperforming assets may make sense, it’s important to vet these choices as you don’t want to miss out on the gains that might come if the asset bounces back.

Another of the potential risks of tax-loss harvesting is that if it’s done carelessly it can leave a portfolio imbalanced. It might be wise to replace the securities sold with similar ones, in order to maintain the risk-return profile. (Just don’t run afoul of the wash-sale rule.)

Last, it’s possible to incur excessive trading fees that can make a tax-loss harvesting strategy less efficient.

Pros of Tax-Loss Harvesting	Cons of Tax-Loss Harvesting
Can lower capital gains taxes	Investor might lose out if the security rebounds
Can help with rebalancing a portfolio	If done incorrectly, can leave a portfolio imbalanced
Can make a liquidity event more tax efficient	Selling assets can add to transaction fees

Creating a Tax-Loss Harvesting Strategy

Interested investors may want to create their own tax-loss harvesting strategy, given the appeal of a lower tax bill. An effective tax-loss harvesting strategy requires a great deal of skill and planning.

It’s important to take into account current capital gains rates, both short and long term. Investors would be wise to also weigh their current asset allocation before they attempt to harvest losses that could leave their portfolios imbalanced.

All in all, any strategy should reflect your long-term goals and aims. While saving money on taxes is important, it’s not the only rationale to rely on for any investment strategy.

The Takeaway

Tax loss harvesting, or selling underperforming stocks and then potentially getting a tax reduction by applying the loss to other investment gains, can be a helpful part of a tax-efficient investing strategy.

There are many reasons an investor might want to do tax-loss harvesting, including when the market is down, when they need liquidity, or when they are rebalancing their portfolio. It’s an individual decision, with many considerations for each investor — including what their ultimate financial goals might be.

FAQ

Is tax-loss harvesting really worth it?

When done carefully, with an eye toward tax efficiency as well as other longer-term goals, tax-loss harvesting can help investors save money that they can invest for the long term.

Does tax-loss harvesting reduce taxable income?

Yes, it can. The point of tax-loss harvesting is to reduce income from investment gains (profits). But also when net losses exceed gains for a given year, the strategy can reduce your taxable income by $3,000 per year going forward.

Can you write off 100% of investment losses?

It depends. Investment losses can be used to offset a commensurate amount in gains, thereby potentially lowering your capital gains tax bill. If there are still net losses that cannot be applied to gains, up to $3,000 per year can be applied to reduce your ordinary income. Net loss amounts in excess of $3,000 would have to be carried forward to future tax years.

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For disclosures on SoFi Invest platforms visit SoFi.com/legal. For a full listing of the fees associated with Sofi Invest please view our fee schedule.

Investment Risk: Diversification can help reduce some investment risk. It cannot guarantee profit, or fully protect in a down market.

Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

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Dec

2025

What Is a Money Purchase Pension Plan (MPPP)? How Is It Different From a 401(k)?

By Rebecca Lake | invest, Investing, Preparing for Retirement | Comments Off

Table of Contents

What Is a Money Purchase Pension Plan?
What Are the Money Purchase Pension Plan Contribution Limits?
The Pros and Cons of Money Purchase Pension Plans
Money Purchase Pension Plan vs 401(k)
FAQ

A money purchase pension plan or MPPP is an employer-sponsored retirement plan that requires employers to contribute money on behalf of employees each year. The plan itself defines the amount the employer must contribute. Employees may also have the option to make contributions from their pay.

Money purchase pension plans have some similarities to more commonly used retirement plans such as 401(k)s, traditional pension plans, and corporate profit-sharing plans. If you have access to a MPPP plan at work, it’s important to understand how it works and where it might fit into your overall retirement strategy.

Key Points

• A Money Purchase Pension Plan (MPPP) is an employer-sponsored retirement plan in which employers make fixed, pre-determined contributions to the plan on behalf of all employees.

• MPPP contribution limits are $70,000 annually in 2025, or 25% of compensation, whichever is less.

• Contributions to MPPPs grow tax-free for employees and are tax-deductible for employers.

• MPPP distribution options include a lifetime annuity and a lump sum distribution.

• MPPP advantages include large account balances and tax benefits, but disadvantages include no hardship withdrawals and no catch-up contributions.

What Is a Money Purchase Pension Plan?

Money purchase pension plans are a type of defined contribution plan. That means they don’t guarantee a set benefit amount at retirement. Instead, these retirement plans allow employers and/or employees to contribute money up to annual contribution limits.

Like other retirement accounts, participants can make withdrawals when they reach their retirement age, which can be an important part of their retirement planning. In the meantime, the account value can increase or decrease based on investment gains or losses.

Money purchase pension plans require the employer to make predetermined fixed contributions to the plan on behalf of all eligible employees. The company must make these contributions on an annual basis as long as the plan is maintained.

Contributions to a money purchase plan grow on a tax-deferred basis. Employees do not have to make contributions to the plan, but they can choose to do so.

What Are the Money Purchase Pension Plan Contribution Limits?

Each money purchase plan determines what its own contribution limits are, though the amount can’t exceed maximum limits set by the IRS. For example, an employer’s plan may specify that they must contribute 5% or 10% of each employee’s pay into that employee’s MPPP plan account.

Annual money purchase plan contribution limits are similar to SEP IRA contribution limits.

For 2025, the maximum contribution allowed is the lesser of:

25% of the employee’s compensation, OR

$70,000

For 2026, the maximum contribution amount allowed is the lesser of:

25% of the employee’s compensation, OR

$72,000

The IRS routinely adjusts the contribution limits for money purchase pension plans and other qualified retirement accounts based on inflation. The amount of money an employee will have in their money purchase plan upon retirement depends on the amount that their employer contributed on their behalf, the amount the employee contributed, and how their investments performed. Your account balance may be one factor in determining when you can retire.

Rules for money purchase plan distributions are the same as other qualified plans — you can begin withdrawing money penalty-free starting at age 59 ½. If you take out money before that, you may owe an early withdrawal penalty.

Like a pension plan, money purchase pension plans must offer the option to receive distributions as a lifetime annuity. Money purchase plans can also offer other distribution options, including a lump sum. Participants do not pay taxes on their accounts until they begin making withdrawals.

The Pros and Cons of Money Purchase Pension Plans

Money purchase pension plans have some benefits, but there are also some drawbacks that participants should keep in mind.

Pros of Money Purchase Plans

Here are some of the advantages for employees and employers who have a money purchase pension plan.

• Tax benefits. For employers, contributions made on behalf of their workers are tax deductible. Contributions grow tax-free for employees, allowing them to defer taxes on investment growth until they begin withdrawing the money.

• Loan access. Employees may be able to take loans against their account balances if the plan permits it.

• Potential for large balances. Given the relatively high contribution limits, employees may be able to accumulate account balances higher than they would with a 401(k) retirement plan, depending on their pay and the percentage their employer contributes on their behalf.

• Reliable income in retirement. When employees retire and begin drawing down their account, the regular monthly payments through a lifetime annuity may help with budgeting and planning.

Disadvantages of Money Purchase Pension Plan

Most of the disadvantages associated with money purchase pension plans impact employers rather than employees.

• Expensive to maintain. The administrative and overhead costs of maintaining a money purchase plan can be higher than those associated with other types of defined contribution plans.

• Heavy financial burden. Since contributions in a money purchase plan are required (unlike the optional employer contributions to a 401(k)), a company could run into issues in years when cash flow is lower.

• Vesting schedules may be long. Employees who leave the company before they are fully vested in an MPPP may forfeit some or all of their employer’s contributions.

• No catch-up contributions for older employees. Unlike a 401(k), employees ages 50 and up do not have the option to make an additional annual catch-up contribution to an MPPP.

Money Purchase Pension Plan vs 401(k)

The main differences between a pension vs 401(k) have to do with their funding and the way the distributions work. In a money purchase plan, the employer provides the funding with optional employee contribution.

With a 401(k), employees fund accounts with elective salary deferrals and optional employer contributions. For both types of plans, the employer may implement a vesting schedule that determines when the employee can keep all of the employer’s contributions if they leave the company. Employee contributions always vest immediately.

The total annual contribution limits (including both employer and employee contributions) for these defined contribution plans are the same, at $70,000 for 2025 and $72,000 for 2026. But 401(k) plans allow for catch-up contributions made by employees aged 50 or older.

For 2025, the employee contribution limit is $23,500, while those aged 50+ can make an extra catch-up contribution of up to $7,500. For 2026, the employee contribution limit is $24,500, while those aged 50+ can make an extra catch-up contribution of up to $8,000. In both 2025 and 2026, those aged 60 to 63 can make a catch-up contribution of up to $11,250 (instead of $7,500 and $8,000, respectively), thanks to a SECURE 2.0 provision.

Both plans may or may not allow for loans, and it’s possible to roll amounts held in a money purchase pension plan or a 401(k) over into a new qualified plan or an Individual Retirement Account (IRA) if you change jobs or retire.

Employees may also be able to take hardship withdrawals from a 401(k) if they meet certain conditions, but the IRS does not allow hardship withdrawals from a money purchase pension plan.

Here’s a side-by-side comparison of a MPPP and a 401(k):

	MPPP Plan	401(k) Plan
Funded by	Employer contributions, with employee contributions optional	Employee salary deferrals, with employer matching contributions optional
Tax status	Contributions are tax-deductible for employers, growth is tax-deferred for employees	Contributions are tax-deductible for employers and employees, growth is tax-deferred for employees
Contribution limits (2025 & 2026)	For 2025, lesser of 25% of employee’s pay or $70,000 For 2026, lesser of 25% of employee’s pay or $72,000	For 2025, $23,500, with catch-up contribution of $7,500 for employees 50 or older, and $11,250 SECURE 2.0 catch-up for those 60 to 63 For 2026, $24,500, with catch-up contribution of $8,000 for employees 50 or older, and $11,250 SECURE 2.0 catch-up for those 60 to 63
Catch-up contributions allowed	No	Yes, for employers 50 and older
Loans permitted	Yes, if the plan allows	Yes, if the plan allows
Hardship withdrawals	No	Yes, if the plan allows
Vesting	Determined by the employer	Determined by the employer

The Takeaway

Money purchase pension plans can be a valuable tool for employees to reach their retirement goals. They’re similar to 401(k)s, but there are some important differences.

Whether you save for retirement in a money purchase pension plan, a 401(k), or another type of account, the most important thing is to get started. The sooner you begin saving for retirement, the more time your money will potentially have to grow.

Prepare for your retirement with an individual retirement account (IRA). It’s easy to get started when you open a traditional or Roth IRA with SoFi. Whether you prefer a hands-on self-directed IRA through SoFi Securities or an automated robo IRA with SoFi Wealth, you can build a portfolio to help support your long-term goals while gaining access to tax-advantaged savings strategies.

Easily manage your retirement savings with a SoFi IRA.

🛈 While SoFi does not offer pension plans or 401(k) plans, we do offer a range of Individual Retirement Accounts (IRAs).

FAQ

What is a pension money purchase plan?

A money purchase pension plan or money purchase plan is a defined contribution plan that allows employers to save money on behalf of their employees. These plans are similar to profit-sharing plans, and companies may offer them alongside a 401(k) plan as part of an employee’s retirement benefits package.

Can I cash in my money purchase pension?

You can cash in a money purchase pension at retirement in place of receiving lifetime annuity payments. Otherwise, early withdrawals from a money purchase pension plan are typically not permitted, and if you do take money early, taxes and penalties may apply. However, if you leave your job, you can roll over the amount of money for which you are fully vested into an IRA or a new employer’s 401(k).

Is a final salary pension for life?

A final salary pension is a defined benefit plan. Unlike a defined contribution plan, defined benefit plans pay out a set amount of money at retirement, typically based on your earnings and number of years of service. Final salary pensions can be paid as a lump sum or as a lifetime annuity, meaning you get paid for the remainder of your life.

Photo credit: iStock/ferrantraite

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

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Dec

2025

What Is a Salary Reduction Contribution Plan?

By Mike Zaccardi, CMT, CFA | Growing Wealth, invest, Investing, Preparing for Retirement | Comments Off

A salary reduction contribution plan allows employees to reduce their taxable income by investing for retirement. With this type of plan, an employee’s salary isn’t really reduced; rather the employer deducts a percentage of their salary and deposits the funds in a retirement savings plan where the money can grow tax deferred.

Common employer-sponsored retirement plans include 401(k)s, 403(b)s, and SIMPLE IRAs. Employee contributions — also called elective deferral contributions — are typically made with pre-tax money, effectively reducing the participant’s taxable income and often lowering their tax bill. Some plans feature an after-tax Roth contribution option, too.

You may already be contributing to a salary reduction contribution plan, although your company may not call it that. These plans can be a valuable way to boost your retirement savings, and offer you a tax break. Here’s what you need to know.

Salary Reduction Contribution Plans Explained

A salary reduction contribution plan helps workers save and invest for retirement through their employer via several types of retirement accounts. Money is typically deposited in a retirement account such as a 401(k), 403(b), or SIMPLE IRA on a pre-tax basis through recurring deferrals (aka contributions) on behalf of the employee.

Employees typically select the percentage they wish to deposit, e.g. 3%, 10%, or more. That percentage is deducted from an employee’s paycheck automatically, and deposited in their retirement account. Sometimes a specific dollar amount is established as the salary reduction contribution amount.

The upshot for the worker is that they can delay paying taxes on the amount of the salary reduction for many years, until they withdraw money from the account during retirement. Like a traditional 401(k) or 403(b), these accounts can be tax deferred; Roth options are considered after tax (because you deposit after-tax funds, but pay no tax on withdrawals). Retirement contributions may offer decades of compounded investment returns without taxation. Essentially, retirement contributions through an employer’s plan means saving money from your salary.

There are also SIMPLE IRA salary reduction agreements sometimes offered by small businesses with 100 or fewer employees: “SIMPLE” is short for “Savings Incentive Match Plan for Employees.”

A Salary Reduction Simplified Employee Pension Plan (SARSEP), on the other hand, is a simplified employee pension plan established before 1997.

How Salary Reduction Contribution Plans Work

Salary reduction contribution plans are established between a worker and their employer. The two parties agree to have a set percentage or a dollar amount taken from the employee’s salary and deposited into a tax-advantaged retirement plan. That money can then be invested in stock or bond mutual funds, or other investments offered by the plan.

With pre-tax contributions, the employee has a reduced paycheck but gets current-year tax savings. With after-tax contributions, as in a Roth account, taxes are paid today while the account can potentially grow tax-free through retirement; withdrawals from a Roth account are tax free.

Example of a Salary Reduction Contribution Plan

Here’s an example of how a salary reduction contribution plan agreement might work:

Let’s say an employee at a university has a $100,000 salary and wishes to save 10% of their pay in a pre-tax retirement account. The school has a 403(b) plan in place. The worker contacts their Human Resources department to ask about submitting a salary reduction agreement form. On the form, the worker chooses an amount of their salary to defer into the 403(b) plan (10%).

Typically they also select investments from a lineup of mutual funds or exchange-traded funds (ETFs).

Come payday, the employee’s paycheck will look different. If the usual biweekly gross earnings amount is $3,846 ($100,000 salary divided by 26 pay periods, per year), then $384.60, or 10% of earnings, is deducted from the employee’s paycheck and deposited into the 403(b) and invested, assuming the employee has selected their desired investment options.

Depending on other deductions, the employee’s new taxable income might be $3,461.40. The contribution effectively reduced the worker’s salary, potentially lowering their tax bill at the end of the year.

If the worker is in the 22% marginal income tax bracket, the $10,000 annual deferral amounts to an annual federal income tax savings of $2,200 per year.

Bear in mind that withdrawals from the 403(b) plan are taxable with pre-tax salary reductions. We’ll look at salary reduction plan withdrawal rules later.

Pros & Cons of Salary Reduction Contribution Plans

Although your employer may offer a salary reduction contribution plan like a 401(k) or SIMPLE IRA salary reduction agreement for retirement, it’s not required to participate. Before deciding whether you want to join your organization’s plan, here are some advantages and disadvantages to consider.

Pros

A salary reduction contribution offers employees the chance to reduce their current-year taxable income. A lower salary defers taxation on the money you save, until retirement. For young workers, that could mean decades of compounding returns without having to pay taxes along the way.

For those who have the option of choosing to open a Roth account, taxes are paid in the current year, but withdrawals are tax free (as long as certain criteria are met). Also, contributions to a Roth 401(k) or Roth 403(b) plan can grow tax-free through retirement.

What’s more, the employer might offer their own contribution such as a matching contribution. Typically, an employer might match employees’ contributions up to a certain amount: e.g. they’ll match 50 cents for every dollar an employee saves, up to 6% of their salary.

Another upside is that lowering one’s salary through automated savings can help an individual live on less money and avoid spending beyond their means — which may help establish long-term savings habits. Thus, contributing to a salary reduction plan can be a step toward creating a financial plan.

Cons

Like many aspects of personal finance, salary reduction contributions can be a balancing act between meeting your obligations today and providing for your future self.

Saving for the future can mean forgoing some pleasure in the present, similar to the concept of delayed gratification. Maybe you decide to postpone a vacation or purchase of a new car in exchange for a more robust retirement account balance.

Employees should also weigh the likelihood of needing money in the event of an emergency. Taking early withdrawals or borrowing from your 401(k) account can be costly, or may come with penalties, versus having extra cash in a checking or savings account. In most cases if you take out a loan from an employer-sponsored plan, you would have to repay the loan in full if you left your job.

Salary Reduction Contribution Limits

Annual salary reduction contribution limits can change each year. The Internal Revenue Service (IRS) determines the yearly maximum contribution amount. For 2025, the most a worker can contribute to a 401(k) or 403(b) is $23,500. For those age 50 and older, an additional $7,500 contribution is permitted. For 2025, those aged 60 to 63 may contribute an additional $11,250 (instead of $7,500) to their 401(k) plan.

In 2026, a worker can contribute up to $24,500 to a 401(k) or 403(b), and those 50 and older can contribute an additional $8,000 in catch-up contributions. For 2026, those aged 60 to 63 may contribute an additional $11,250 (instead of $8,000) to their 401(k) plan.

A SIMPLE IRA salary reduction agreement has different limits. For 2025, a SIMPLE IRA’s annual maximum contribution is $16,500 with a catch-up contribution of up to $3,500 for those age 50 and older. For 2026, the annual maximum SIMPLE IRA contribution limit is $17,000 and $4,000 for those 50 and up. For 2025 and 2026, those aged 60 to 63 may contribute an additional $5,250 (instead of $3,500 or $4,000 respectively) to their SIMPLE IRA.

Salary Reduction Contribution Plan Withdrawal Rules

There are many rules regarding salary reduction contribution plan withdrawals.

At a high level, when an employee withdraws money from a tax-deferred retirement account, they will owe income tax on the money. If you withdraw money before age 59 ½, a 10% early-withdrawal tax might be applied.

There can be some exceptions to these rules, but it’s best to consult with a professional.

Should you withdraw money when you leave your employer? While taking a lump sum is possible under those circumstances, it may not be your best choice: You’d owe taxes on the full amount, and you’d risk spending money that’s meant to support you when you’re older.

The standard rule of thumb is that individuals who are leaving one employer should consider rolling over their retirement account to an IRA, or their new employer’s plan. In that case there are no penalties or taxes owed, and the money is once again secured for the future.

The Takeaway

Salary reduction contribution plans can help workers save money for retirement on a pre-tax or after-tax basis. Steadily putting money to work for your future is a major step toward building a solid long-term financial plan. And in many cases you will reap a tax advantage in the present — or in the future.

That said, there are important pros and cons to weigh when deciding whether you should contribute via a salary reduction plan. You may have another strategy. But if you don’t, you might want to consider opting into your employer’s plan for the benefits it can provide.

An important point to know: Even when you join a salary reduction plan, you can still open up an IRA online to boost your savings. And if you leave your job, you can roll over your salary reduction retirement account to an IRA without paying taxes or penalties.

Easily manage your retirement savings with a SoFi IRA.

FAQ

Does a 401(k) reduce salary?

Not really. Contributions toward a traditional 401(k) retirement plan are a tax-deductible form of savings that effectively reduce an individual’s taxable income. In that regard, making retirement contributions on a pre-tax basis can reduce someone’s salary (but you still have the money in your retirement account).

Also, some plans allow for after-tax contributions which also reduce the size of your paycheck, but are not tax deductible.

What does employee salary reduction mean?

Employee salary reduction means that money is automatically deducted from an employee’s paycheck and contributed to a retirement plan. Money moves into a plan such as a 401(k), 403(b), or a SIMPLE IRA. The account is in the employee’s name, and they decide how to invest the funds.

What is the difference between SEP and SARSEP?

A SEP is known as a Simplified Employee Pension Plan. A SEP plan allows employers to contribute to traditional IRAs (called SEP IRAs) for their employees. The IRS states that a business of any size, even self-employed, can establish a SEP. These plans are common in the small business world.

A SARSEP, on the other hand, is a simplified employee pension plan established before 1997. A SARSEP includes a salary reduction arrangement. The employee can choose to have the employer contribute a portion of their salary to an IRA or annuity. Per the IRS, a SARSEP may not be established after 1996.

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INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

Dec

2025

Guide to 457 Retirement Plans

By Rebecca Lake | Growing Wealth, invest, Investing, Preparing for Retirement | Comments Off

A 457 plan — technically a 457(b) plan — is similar to a 401(k) retirement account. It’s an employer-provided retirement savings plan that you fund with pre-tax contributions, and the money you save grows tax-deferred until it’s withdrawn in retirement.

But a 457 plan differs from a 401(k) in some significant ways. While any employer may offer a 401(k), 457 plans are designed specifically for state and local government employees, as well as employees of certain tax-exempt organizations. That said, a 457 has fewer limitations on withdrawals.

This guide will help you decide whether a 457 plan is right for you.

What Is a 457 Retirement Plan?

A 457 plan is a type of deferred compensation plan that’s used by certain employees when saving for retirement. The key thing to remember is that a 457 plan isn’t considered a “qualified retirement plan” based on the federal law known as ERISA (from the Employee Retirement Income Security Act of 1974).

These plans can be established by state and local governments or by certain tax-exempt organizations. The types of employees that can participate in 457 savings plans include:

• Firefighters

• Police officers

• Public safety officers

• City administration employees

• Public works employees

Note that a 457 plan is not used by federal employees; instead, the federal government offers a Thrift Savings Plan (TSP) to those workers. Nor is it exactly the same thing as a 401(k) plan or a 403(b), though there are some similarities between these types of plans.

How a 457 Plan Works

A 457 plan works by allowing employees to defer part of their compensation into the plan through elective salary deferrals. These deferrals are made on a pre-tax basis, though some plans can also allow employees to choose a Roth option (similar to a Roth 401(k)).

The money that’s deferred is invested and grows tax-deferred until the employee is ready to withdraw it. The types of investments offered inside a 457 plan can vary by the plan but typically include a mix of mutual funds. Some 457 retirement accounts may also offer annuities as an investment option.

Unlike 401(k) plans, which require employees to wait until age 59 ½ before making qualified withdrawals, 457 plans allow withdrawals at whatever age the employee retires. The IRS doesn’t impose a 10% early withdrawal penalty on withdrawals made before age 59 ½ if you retire (or take a hardship distribution). Regular income tax still applies to the money you withdraw, except in the case of Roth 457 plans, which allow for tax-free qualified distributions.

So, for example, say you’re a municipal government employee. You’re offered a 457 plan as part of your employee benefits package. You opt to defer 15% of your compensation into the plan each year, starting at age 25. Once you turn 50, you make your regular contributions along with catch-up contributions. You decide to retire at age 55, at which point you’ll be able to withdraw your savings or roll it over to an IRA.

Who Is Eligible for a 457 Retirement Plan?

In order to take advantage of 457 plan benefits you need to work for an eligible employer. Again, this includes state and local governments as well as certain tax-exempt organizations.

There are no age or income restrictions on when you can contribute to a 457 plan, unless you’re still working at age 73. A 457 retirement account follows required minimum distribution rules, meaning you’re required to begin taking money out of the plan once you turn 73. At this point, you can no longer make new contributions.

A big plus with 457 plans: Your employer could offer a 401(k) plan and a 457 plan as retirement savings options. You don’t have to choose one over the other either. If you’re able to make contributions to both plans simultaneously, you could do so up to the maximum annual contribution limits.

Pros & Cons of 457 Plans

A 457 plan can be a valuable resource when planning for retirement expenses. Contributions grow tax-deferred and as mentioned, you could use both a 457 plan and a 401(k) to save for retirement. If you’re unsure whether a 457 savings plan is right for you, weighing the pros and cons can help you to decide.

Pros of 457 Plans

Here are some of the main advantages of using a 457 plan to save for retirement.

No Penalty for Early Withdrawals

Taking money from a 401(k) or Individual Retirement Account before age 59 ½ can result in a 10% early withdrawal tax penalty. That’s on top of income tax you might owe on the distribution. With a 457 retirement plan, this rule doesn’t apply so if you decide to retire early, you can tap into your savings penalty-free.

Special Catch-up Limit

A 457 plan has annual contribution limits and catch-up contribution limits but they also include a special provision for employees who are close to retirement age. This provision allows them to potentially double the amount of money they put into their plan in the final three years leading up to retirement.

Loans May Be Allowed

If you need money and you don’t qualify for a hardship distribution from a 457 plan you may still be able to take out a loan from your retirement account (although there are downsides to this option). The maximum loan amount is 50% of your vested balance or $50,000, whichever is less. Loans must be repaid within five years.

Cons of 457 Plans

Now that you’ve considered the positives, here are some of the drawbacks to consider with a 457 savings plan.

Not Everyone Is Eligible

If you don’t work for an eligible employer then you won’t have access to a 457 plan. You may, however, have other savings options such as a 401k or 403(b) plan instead which would allow you to set aside money for retirement on a tax-advantaged basis. And of course, you can always open an IRA.

Investment Options May Be Limited

The range of investment options offered in 457 plans aren’t necessarily the same across the board. Depending on which plan you’re enrolled in, you may find that your investment selections are limited or that the fees you’ll pay for those investments are on the higher side.

Matching Is Optional

While an employer may choose to offer a matching contribution to a 457 retirement account, that doesn’t mean they will. Matching contributions are valuable because they’re essentially free money. If you’re not getting a match, then it could take you longer to reach your retirement savings goals.

457 Plan Contribution Limits

The IRS establishes annual contribution limits for 457 plans. There are three contribution amounts:

• Basic annual contribution

• Catch-up contribution

• Special catch-up contribution

Annual contribution limits and catch-up contributions follow the same guidelines established for 401(k) plans.

There are two special catch-up contributions. For 2025 and 2026, employees aged 60 to 63 may contribute a “super” catch-up contribution instead of the standard catch-up contribution, thanks to SECURE 2.0. The traditional 457 special catch-up contribution is an additional amount that’s designated for employees who are within three years of retirement. Not all 457 retirement plans allow for this special catch-up contributions.

Here are the 457 savings plan maximum contribution limits for 2025 and 2026.

	2025	2026
Annual Contribution	Up to 100% of an employees’ includable compensation or $23,500, whichever is less	Up to 100% of an employees’ includable compensation or $24,500, whichever is less
Catch-up Contribution	Employees 50 and over can contribute an additional $7,500	Employees 50 and older can contribute an additional $8,000
Special Catch-up Contribution	SECURE 2.0 super catch-up of $11,250 for employees aged 60 to 63; $23,500 or the basic annual limit plus the amount of the basic limit not used in prior years, whichever is less^*	SECURE 2.0 super catch-up opf $11,250 for employees aged 60 to 63; $24,500 or the basic annual limit plus the amount of the basic limit not used in prior years, whichever is less^*

2025

2026

Annual Contribution

Up to 100% of an employees’ includable compensation or $23,500, whichever is less

Up to 100% of an employees’ includable compensation or $24,500, whichever is less

Catch-up Contribution

Employees 50 and over can contribute an additional $7,500

Employees 50 and older can contribute an additional $8,000

Special Catch-up Contribution

SECURE 2.0 super catch-up of $11,250 for employees aged 60 to 63;

$23,500 or the basic annual limit plus the amount of the basic limit not used in prior years, whichever is less^*

SECURE 2.0 super catch-up opf $11,250 for employees aged 60 to 63;

$24,500 or the basic annual limit plus the amount of the basic limit not used in prior years, whichever is less^*

^*This option is not available if the employee is already making age-50-or-over catch-up contributions or SECURE 2.0 catch-up contributions.

457 vs 403(b) Plans

The biggest difference between a 457 plan and a 403(b) plan is who they’re designed for. A 403(b) plan is a type of retirement plan that’s offered to public school employees, including those who work at state colleges and universities, and employees of certain tax-exempt organizations. Certain ministers may establish a 403(b) plan as well. This type of plan can also be referred to as a tax-sheltered annuity or TSA plan.

Like 457 plans, 403(b) plans are funded with pre-tax dollars and contributions grow tax-deferred over time. These contributions can be made through elective salary deferrals or nonelective employer contributions. Employees can opt to make after-tax contributions or designated Roth contributions to their plan. Employers are not required to make contributions.

The annual contribution limits to 403(b) plans, including catch-up contributions, are the same as those for 457 plans. A 403(b) plan can also offer special catch-up contributions, but they work a little differently and only apply to employees who have at least 15 years of service.

Employees can withdraw money once they reach age 59 ½ and they’ll pay tax on those distributions. A 403(b) plan may allow for loans and hardship distributions or early withdrawals because the employee becomes disabled or leaves their job.

Investing for Retirement With SoFi

When weighing retirement plan options, a 457 retirement account may be one possibility. That’s not the only way to save and invest, however. If you don’t have a retirement plan at work or you’re self-employed, you can still open a traditional or Roth IRA to grow wealth.

Help grow your nest egg with a SoFi IRA.

FAQ

How does a 457 plan pay out?

If you have a 457 savings plan, you can take money out of your account before age 59 ½ without triggering an early withdrawal tax penalty in certain situations. Those distributions are taxable at your ordinary income tax rate, however. Like other tax-advantaged plans, 457 plans have required minimum distributions (RMDs), but they begin at age 73.

What are the rules for a 457 plan?

The IRS has specific rules for which types of employers can establish 457 plans; these include state and local governments and certain tax-exempt organizations. There are also rules on annual contributions, catch-up contributions and special catch-up contributions. In terms of taxation, 457 plans follow the same guidelines as 401(k) or 403(b) plans: Contributions are made pre-tax; the employee pays taxes on withdrawals.

When can you take money out of a 457 plan?

You can take money out of a 457 plan once you reach age 59 ½. Withdrawals are also allowed prior to age 59 ½ without a tax penalty if you’re experiencing a financial hardship or you leave your employer. Early withdrawals are still subject to ordinary income tax.

About the author

Rebecca Lake

Rebecca Lake has been a finance writer for nearly a decade, specializing in personal finance, investing, and small business. She is a contributor at Forbes Advisor, SmartAsset, Investopedia, The Balance, MyBankTracker, MoneyRates and CreditCards.com. Read full bio.

Photo credit: iStock/Nomad

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

Dec

2025

What Happens to a 401k When You Leave Your Job?

What Happens to Your 401(k) When You Leave Your Job?

By Austin Kilham | invest, Investing, Money & Life, Preparing for Retirement | Comments Off

Table of Contents

A Quick 401(k) Overview
What Happens to Your 401(k) When You Quit?
How Long Do You Have to Move Your 401(k)?
Next Steps for Your 401(k) After Leaving a Job
FAQ

There are many important decisions to make when starting a new job, including what to do with your old 401(k) account. Depending on the balance of the old account and the benefits offered at your new job, you may have several options, including keeping it where it is, rolling it over into a brand new account, or cashing it out.

A 401(k) may be an excellent way for workers to build a retirement fund, as it allows them to save for retirement on a tax-advantaged basis, and many employers offer matching contributions.

Key Points

When leaving a job, you have options for your 401(k) account, including leaving it with your former employer, rolling it over into a new account, or cashing it out.
If your 401(k) balance is less than $7,000, your former employer may cash out the funds or roll them into another retirement account in your name.
If you have more than $7,000 in your 401(k), your former employer cannot force you to cash out or roll over the funds without your permission.
If you quit or are fired, you may lose employer contributions that are not fully vested.
It is important to consider the tax implications, penalties, and long-term financial security before making decisions about your 401(k) when leaving a job.

A Quick 401(k) Overview

A 401(k) is a type of retirement savings plan many employers offer that allows employees to save and invest with tax advantages. With a 401(k) plan, an employer will automatically deduct workers’ contributions to the account from their paychecks before taxes are taken out.

In 2025, employees can contribute up to $23,500 a year in their 401(k)s, and employees aged 50 and older can make catch-up contributions of $7,500 a year for a total of $31,000. In 2026, employees can contribute up to $24,500 annually in their 401(k)s, and those 50 and older can contribute a catch-up of $8,000, for a total of $32,500. Also in both 2025 and 2026, those aged 60 to 63 may contribute an additional $11,250 instead of $7,500 and $8,000, for an annual total of $34,750 and $35,750, respectively.

Employees will invest the funds in a 401(k) account in several investment options, depending on what the employer and their 401(k) administrator offer, such as stocks, bonds, mutual funds, and target date funds.

The money in a 401(k) account grows tax-free until the employee withdraws it, typically after reaching age 59 ½. At that point, the employee must pay taxes on the money withdrawn. However, if the employee withdraws money before reaching 59 ½, they will typically have to pay 401(k) withdrawal taxes and penalties.

Some employers also offer matching contributions, which are additional contributions to an employee’s account based on a certain percentage of the employee’s own contributions. Employers may use 401(k) vesting schedules to determine when employees can access these contributions.

Generally, the more you can save in a 401(k), the better. If you can’t max out your 401(k) contributions, start by contributing at least enough money to qualify for your employer’s 401(k) match if they offer one.

What Happens to Your 401(k) When You Quit Your Job?

When you quit your job, you generally have several options for your 401(k) account. You can leave the money in the account with your former employer, roll it into a new employer’s 401(k) plan, move it over to an IRA rollover, or cash it out.

However, if your 401(k) account has less than $7,000, your former employer may not allow you to keep it open. If there is less than $1,000 in your account, your former employer may cash out the funds and send them to you via check. If there is between $1,000 and $7,000 in the account, your employer may roll it into another retirement account in your name, such as an IRA. You may also suggest a specific IRA for the rollover.

With most 401(k) plans, if you have more than $7,000 in your account, your funds can usually remain in the account indefinitely.

Also, if you quit your job and you are not fully vested, you forfeit your employer’s contributions to your 401(k). But you do get to keep your vested contributions.

Is There Any Difference if You’re Fired?

If you are fired from your job, your 401(k) account options are similar to those if you quit your job. As noted above, you can leave the money in the account with your former employer, roll it into a new employer’s 401(k) plan, roll it over into an IRA, or cash it out. The same account limits mentioned above apply as well.

Additionally, if you are fired from your job, you may be eligible for a severance package, which may include a lump sum payment or continuation of benefits, including a 401(k) plan. But these benefits depend on your company and the circumstances surrounding your termination. And, like with quitting your job, you do not get to keep any employer contributions that are not fully vested.

How Long Do You Have to Move Your 401(k)?

If you leave your job, you don’t necessarily have to move your 401(k). Depending on the amount you have in the 401(k), you can usually keep it with your previous employer’s 401(k) administrator.

But if you do choose to roll over your 401(k) as an indirect rollover, you typically have 60 days from the date of distribution to roll over your 401(k) account balance into an IRA or another employer’s 401(k) plan. If you fail to roll over the funds within 60 days, the distribution will be subject to taxes and penalties, and if you are under 59 ½ years old, an additional 10% early withdrawal penalty.

Next Steps for Your 401(k) After Leaving a Job

As you decide what to do with your funds, you have several options, from cashing out to rolling over your 401(k)s to expanding your investment opportunities.

Cash Out Your 401(k)

You can cash out some or all of your 401(k), but in most cases, there are better choices than this from a personal finance perspective. As noted above, if you are younger than 59 ½, you may be slammed with income taxes and a 10% early withdrawal penalty, which can set you back in your ability to save for your future.

If you are age 55 or older, you may be able to draw down your 401(k) penalty-free thanks to the Rule of 55. But remember, when you remove money from your retirement account, you no longer benefit from tax-advantaged growth and reduce your future nest egg.

Roll Over Your 401(k) Into a New Account

Your new employer may offer a 401(k). If this is the case and you are eligible to participate, you may consider rolling over the funds from your old account. This process is relatively simple. You can ask your old 401(k) administrator to move the funds from one account directly to the other in what is known as a direct transfer.

Doing this as a direct transfer rather than taking the money out yourself is important to avoid triggering early withdrawal fees. A rollover into a new 401(k) has the advantage of consolidating your retirement savings into one place; there is only one account to monitor.

Keep Your 401(k) With Your Previous Employer

If you like your previous employer’s 401(k) administrator, its fees, and investment options, you can always keep your 401(k) where it is rather than roll it over to an IRA or your new employer’s 401(k).

However, keeping your 401(k) with your previous employer may make it harder to keep track of your retirement investments because you’ll end up with several accounts. It’s common for people to lose track of old 401(k) accounts.

Moreover, you may end up paying higher fees if you keep your 401(k) with your previous employer. Usually, employers cover 401(k) fees, but if you leave the company, they may shift the cost onto you without you realizing it. High fees may end up eating into your returns, making it harder to save for retirement.

Does Employer Match Stop After You Leave?

Once you leave a job, whether you quit or are fired, you will no longer receive the matching employer contributions.

Look for New Investment Options

If you don’t love the investment options or fees in your new 401(k), you may roll the funds over into an IRA account instead. Rolling assets into a traditional IRA is relatively simple and can be done with a direct transfer from your 401(k) plan administrator. You also may be allowed to roll a 401(k) into a Roth IRA, but you’ll have to pay taxes on the amount you convert.

The advantage of rolling funds into an IRA is that it may offer a more comprehensive array of investment options. For example, a 401(k) might offer a handful of mutual or target-date funds. In an IRA, you may have access to individual securities like stocks and bonds and a wide variety of mutual funds, index funds, and exchange-traded funds.

Test your understanding of what you just read.

The Takeaway

Changing jobs is an exciting time, whether or not you’re moving, and it can be a great opportunity to reevaluate what to do with your retirement savings. Depending on your financial situation, you could leave the funds where they are or roll them over into your new 401(k) or an IRA. You can also cash out the account, but that may harm your long-term financial security because of taxes, penalties, and loss of a tax-advantaged investment account.

Help build your nest egg with a SoFi IRA.

FAQ

How long can a company hold your 401(k) after you leave?

A company can hold onto an employee’s 401(k) account indefinitely after they leave, but they are required to distribute the funds if the employee requests it or if the account balance is less than $7,000.

Can I cash out my 401(k) if I quit my job?

You can cash out your 401(k) if you quit your job. However, experts generally do not advise cashing out a 401(k), as doing so will trigger taxes and penalties on the withdrawn amount. Instead, it is usually better to either leave the funds in the account or roll them over into a new employer’s plan or an IRA.

What happens if I don’t rollover my 401(k)?

If you don’t roll over your 401(k) when you leave a job, the funds will typically remain in the account and be subject to the rules and regulations of the plan. If the account balance is less than $7,000, the employer may roll over the account into an IRA or cash out the account. If the balance is more than $7,000, the employer may offer options such as leaving the funds in the account or rolling them into an IRA.

You may also be interested in:

Guide to Transferring 401(k) to a New Job

How to Roll Over Your 401(k)

When Can You Withdraw From Your 401(k)?

Article Sources

IRS. 401(k) limit increases to $23,500 for 2025, IRA limit remains $7,000.

Photo credit: iStock/chengyuzheng

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