Retirement Benefits Playbook for Founders: What to Do With 401(k)s When Employees Leave

Hook: Solve turnover headaches before they hit your P&L

Founders: when an employee leaves, the 401(k) is more than a spreadsheet line — mishandled retirement distributions create tax headaches, compliance risk, and a perception problem that damages your employer brand. If you don’t have a repeatable playbook, every exit becomes an ad-hoc scramble for HR, your payroll vendor, and legal counsel.

Executive summary — action-first checklist

Follow these four immediate actions when an employee exits to reduce risk and deliver a clear experience:

1. Start communications within 3 business days — use the separation 401(k) template below.
2. Offer the four standard options: leave in plan (if permitted), direct rollover to new employer plan, rollover to IRA, or distribution/cash-out with tax guidance.
3. Manage plan loans and repayment rules — confirm the outstanding loan treatment and deadlines in your plan document.
4. Log the exit in your HR playbook and trigger the vendor workflow to send distribution paperwork within 7–10 days.

Why this matters now — 2026 trends that change the rules of engagement

The retirement landscape in 2026 is evolving fast and small employers must adapt. Key trends founders should know:

• Portable benefits momentum: pooled-employer plans (PEPs) and recordkeepers have scaled in 2024–2025, and in late 2025 several major providers launched auto-portability pilots to reduce orphaned accounts.
• Fintech-enabled rollovers: frictionless direct rollovers (with pre-filled transfer info) are increasingly available — good recordkeepers reduce manual processing time for HR teams.
• Regulatory focus on participant outcomes: regulators and plan auditors are scrutinizing communications and default cash-out practices, making documentation more important than ever.
• Candidate expectations: benefits-savvy talent evaluates portability and retirement hygiene when joining — a clean exit process supports recruiting and retention.

High-level options for departing employees (what each means for you)

When an employee leaves, the plan document and recordkeeper determine the available routes. Below are the commonly available options and practical implications for founders.

1. Leave the balance in your plan

Many plans allow former employees with balances above a minimum to leave their money where it is. This is low-friction for the employer — but it creates ongoing administrative liability (statements, fee disclosures) and may produce multiple dormant accounts.

• Pros: Simplicity for the employee; no immediate taxable event.
• Cons: Long-term recordkeeping, potential additional fees, and participant disengagement.

2. Direct rollover to the employee’s new employer plan

A direct rollover moves funds from your plan to another qualified plan without tax withholding. It is clean for the participant and minimizes follow-up paperwork for you if the recordkeeper handles the transfer.

• Pros: No immediate tax consequences; maintains retirement savings in a qualified plan.
• Cons: Not all plans accept incoming rollovers; requires coordination between recordkeepers.

3. Rollover to an IRA

Rollover to an IRA (direct or indirect) is a common choice. A direct rollover keeps the transaction non-taxable and avoids mandatory withholding that applies to indirect rollovers.

• Pros: Broader investment options and consolidated accounts for workers.
• Cons: If the employee chooses an indirect rollover and 20% is withheld, they must replace the withheld amount within 60 days to avoid taxes and penalties.

4. Cash-out (distribution)

For small balances, many plans permit a distribution. Distributions are taxable events and, depending on age and circumstances, may trigger penalties. Note: cash-outs under certain thresholds are subject to plan rules and regulatory constraints.

• Pros: Immediate settlement for the employee; removes administrative burden for employer.
• Cons: Taxes for the employee, potential long-term harm to their retirement savings, and possible reputational damage to your employer brand.

5. Plan transfer / pooled solutions

Small businesses increasingly move to PEPs or to recordkeepers offering automated portability. A plan transfer can reduce your administrative load and centralize compliance.

• Pros: Lower admin overhead and professionalized participant servicing.
• Cons: Transition timing, vendor selection, and plan document updates.

6. Loans and outstanding balances

Plan loans complicate exits. Most plans require loan repayment upon termination or treat unpaid loans as taxable distributions. Your plan document will specify timelines and consequences.

Compliance essentials — what founders must confirm immediately

Before you approve any distribution or rollover, confirm the following:

• Plan Document Authority: What your plan permits by default for termination distributions (leave-in-plan thresholds, auto-rollover rules, mandatory distributions).
• Recordkeeper Capabilities: Whether direct rollovers to IRAs and other plans are supported and the typical transfer timeline.
• Loan Policies: How loans are treated at termination and if there’s a cure period to repay.
• Tax Withholding Rules: Indirect rollovers typically trigger mandatory withholding (commonly 20%); direct rollovers do not.
• QDRO and Domestic Relations Orders: Ensure compliance if the distribution involves divorce settlements.

Practical timeline — an HR playbook (templates below)

Below is a recommended timeline for HR and payroll. Adjust the days to match your normal pay cycle and recordkeeper SLA.

1. Day 0–1: Exit recorded
   • Update HRIS and payroll, flag retirement account owner for separation workflow.
   • Send the initial 401(k) separation email (Template A).
2. Day 3–7: Recordkeeper notification
   • Submit separation to recordkeeper; request distribution/rollover packet be generated.
   • Confirm loan status and repayment options with the recordkeeper.
3. Day 7–30: Employee decision window
   • Employee returns rollover election or distribution form. Send reminders at day 10 and day 20 if no response.
   • If opting for direct rollover, initiate transfer with receiving plan/IRA.
4. Day 30–60: Execute transaction
   • Recordkeeper completes rollover or distribution; HR logs the transaction and closes the file.
   • If an indirect rollover occurred with withholding, track whether the employee rolled the funds into an IRA within 60 days.
5. Day 60+: Audit and follow-up
   • Retain documentation for audits; reconcile plan records and confirm final statements were issued.

HR communication templates (copy, paste, customize)

Use these templates to standardize communications. Keep a copy in your separation checklist and in the plan document folder.

Template A — Initial separation 401(k) notice (send within 3 business days)

Subject: Important – Your 401(k) Account with [Company]

Hi [Employee Name],

As part of your separation from [Company], we wanted to confirm the status of your 401(k) account. You have the following options: leave the balance in the plan (if allowed), roll the balance into a new employer plan, roll into an IRA, or take a distribution (taxable). Please review the attached distribution packet from our recordkeeper, [Recordkeeper Name], and let us know your election within 30 days.

If you have an outstanding loan, the recordkeeper will provide repayment options and deadlines.

For questions about taxes or rollover rules, you should consult a tax advisor. We are available to facilitate paperwork with the recordkeeper.

Regards,
[HR Contact Name]
[Company]

Template B — Rollover instruction (when employee chooses direct rollover to an IRA)

Subject: Next steps to complete your direct rollover

Hi [Employee Name],

Thanks for your election to roll your [Company] 401(k) balance to an IRA. To complete the direct rollover we need:

• Receiving IRA custodian name and account number
• Signed direct rollover authorization (attached)

Once we receive your signed authorization, we will instruct [Recordkeeper Name] to transfer the funds directly to your IRA. Direct rollovers are non-taxable and avoid mandatory withholding.

Regards,
[HR Contact Name]

Template C — Final confirmation (after rollover/distribution completes)

Subject: Confirmation — 401(k) transaction complete

Hi [Employee Name],

This is to confirm that your [Company] 401(k) account transaction has been completed. Transaction type: [Direct Rollover / Indirect Rollover / Distribution]. Amount: [$X]. If you selected an indirect rollover and 20% was withheld, you may need to replace that amount in your IRA within 60 days to avoid taxes and penalties.

Attached are the transaction receipts from [Recordkeeper Name]. Please retain this for your records.

Regards,
[HR Contact Name]

Case study: How a 25-person startup reduced orphaned accounts

Background: A software startup with 25 employees experienced high churn among junior hires. Employees were cashing out small balances, causing unhappiness and downstream recruiting friction. The founder moved the company to a PEP in early 2025 and adopted an automated rollover default for balances under the plan’s threshold.

Outcome: Within 9 months the number of dormant accounts fell by 70%, administrative time spent on exits dropped 40%, and new hires cited portability in onboarding surveys. The founder reinvested administrative savings into a financial wellness benefit that improved retention.

Key performance indicators to track for your retirement playbook

Track these so you can measure ROI and surface problems early:

• Number of exit transactions per quarter
• Percent of direct rollovers vs. cash-outs
• Average days to complete rollover
• Number of orphaned/dormant accounts
• Administrative hours per exit

Advanced strategies for founders (2026-forward)

Go beyond reactive compliance and use retirement policy to support talent outcomes.

• Adopt a PEP or third-party administrator: Consolidates compliance, delegates portability workflows, and offloads participant communications.
• Offer guided rollovers: Contract with a recordkeeper that provides mediated rollover paths and concierge support for departing employees.
• Implement auto-enrollment + auto-portability: Auto-enrollment raises participation; auto-portability (where available) reduces orphaned accounts — consider these as part of the total rewards narrative.
• Include retirement hygiene in exit interviews: Capture the reason for cash-outs and provide tailored education in the exit flow.

Common mistakes and how to avoid them

• Waiting to notify employees: Delay causes missed elections and audit gaps. Send the initial notice within 3 days.
• Relying on tribal knowledge: Centralize your process in the HR playbook and train at least two owners.
• Ignoring vendor SLAs: Know your recordkeeper’s timelines; document exceptions.
• Letting small balances slip: Decide deliberately whether your plan will auto-roll small amounts to an IRA, cash out, or keep them in plan.

What to include in your written HR playbook (one-pager checklist)

1. Owner: HR lead and backup
2. Recordkeeper contact and SLA
3. Plan document links and SPD version
4. Templates for communication (A–C above)
5. Loan handling procedure
6. Escalation matrix for complex cases (QDROs, divorces, deceased participants)
7. Audit file retention schedule

Risk management and legal checklist

Retirement plan compliance carries legal exposure. Take these practical steps:

• Annually review the plan document with your ERISA counsel.
• Keep all distribution and rollover election records for at least seven years.
• Confirm your fiduciary governance — document the decision to move to a PEP or change default thresholds.
• Train HR and payroll to spot suspicious transactions and potential fraud in rollover paperwork.

Final checklist: ready-to-run 401(k) exit play

• Have the separation email template saved in your HRIS.
• Confirm the recordkeeper is assigned in the separation workflow.
• Set automated reminders: 10 days and 20 days after separation.
• Document the transaction and close the employee account file within 60 days.

Closing thoughts

In 2026, retirement experience is an extension of your employer brand. Founders who standardize the exit process reduce legal risk, save admin time, and improve employee trust. Use the templates and timelines above to create a repeatable workflow — then measure and iterate. Small changes in communication cadence and vendor selection yield outsized improvements in retention and recruiter messaging.

Call to action

Ready to turn exits into an advantage? Download our 401(k) exit checklist and editable email templates, or schedule a 30-minute compliance audit with our retirement playbook team at leaders.top. We'll review your plan document, recommend vendor features (auto-rollover, portability), and help you implement a frictionless separation workflow tailored to a small-business context.

Disclaimer: This article provides practical guidance but is not legal or tax advice. Consult ERISA counsel or a tax professional for decisions that affect fiduciary duties or tax liabilities.

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