Feb
25
2025
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Guide to Share Lending

By | Growing Wealth, invest, Investing | Comments Off on Guide to Share Lending

Share lending is when investment firms loan shares to borrowers as a way to collect additional revenue on stocks they already hold. This produces another revenue stream on equities that would otherwise sit untraded in their portfolios.

The borrowers of the shares are often short sellers, who give collateral in the form of cash or other securities to the lenders.

Key Points

•   Share lending involves institutional investors temporarily transferring shares to borrowers for a fee, enhancing revenue.

•   Short selling, a key use of borrowed shares, is a high-risk strategy that allows investors to seek potentially high returns from price declines and increased market liquidity.

•   Benefits of share lending include additional income and turning inactive investments into potential profit generators.

•   Risks include counterparty default, loss of SIPC protection, negative tax implications, and loss of voting rights.

•   Concerns exist over the transfer of voting rights and lack of transparency in the securities lending market.

What Is Share Lending?

Share lending involves institutions lending out investors’ shares of stock to other investors in order to generate more revenue. The lenders are often pension funds, mutual funds, sovereign wealth funds, and exchange-traded fund (ETF) providers, since these types of firms tend to be long-term holders of equities.

Brokerages can also practice securities lending with shares in retail investors’ brokerage accounts, so long as investors agree to it. Share lending can help such firms keep management fees down for their clients.

Share lending is also known as securities lending, as the practice can extend beyond equities to bonds and commodities. Securities lending has become more popular in recent years as increased competition in the brokerage space drove down management fees to near-zero, and investment firms sought other sources of revenue. Worldwide revenue from securities lending totaled $9.64 billion during 2024.

Share lending is also useful to investors who are shorting stock, because those investors need to borrow shares in order to open their positions.

Critics argue that the practice comes at the expense of fund investors, since investment firms forgo their voting rights when they loan out shares. They might also try to own stocks that are easier to rent out.

Other concerns about share lending include a lack of transparency, and an increase in counterparty risk. That said, because short-sellers often use margin trading as a way to increase their potential returns, they’re likely used to assuming risk.

How Securities Lending Works

Here’s a deeper breakdown of how share lending works:

1.    Institutional investors use in-house or third-party agents to match their shares with borrowers. Such agents receive a cut of the fee generated by the loan. Sometimes, retail investors may loan or borrower shares through their broker as well.

2.    The fee is agreed upon in advance and typically tied to how much demand there is for the lent-out security on the market.

3.    The institutional investor or lender often reinvests the collateral in order to collect additional interest or income while their shares are out on loan.

4.    Borrowers tend to be other banks, hedge funds, or broker-dealers, and sometimes include other lending agents, retail investors, or short sellers. When the borrower is done using the shares, they return them back to the lender.

5.    If the collateral posted was in the form of cash, a percentage of the revenue earned from reinvesting is sometimes given back to the borrower.

Retail investors should learn whether their brokerage offers securities lending or share-lending programs. If you have a margin account at a brokerage or with a specific investing platform, there’s a good chance that you may be eligible or given access to a share-lending program. But you’ll need to ask your specific brokerage for details.

For some dividend stocks, investors could get some form of payment from the borrower, rather than the dividend itself. This payment may be taxed at a higher rate than a dividend payout.

Share Lending and Short Selling

In order to short a stock, investors usually first borrow shares. They then sell these shares to another investor or trader, with the hope that when or if the stock’s price falls, the short seller can buy them back and pocket the difference, before returning the loaned shares.

In share lending, a share can only be loaned out once — but when the borrower is a short seller, they can sell it, and the new buyer can lend it again. This is why the short stock float – the percentage of the share float that is shorted — can rise above 100% in a stock.

The fee generated by lending out shares depends on their availability. A small number of stocks tend to account for a large proportion of revenue in securities lending.

Criticism of Securities Lending

The lack of transparency in securities lending is a concern for many investors — both retail, and institutional.

The Dark Side of Share Lending

In December 2019, Japan’s Government Pension Investment Fund, among the world’s largest, announced that it would halt stock lending, saying the practice is not in line with its goals as a long-term investor. They further cited a lack of transparency regarding the identity of the individuals or entities borrowing the loaned securities, as well as their motivations for borrowing.

This became a bigger concern for investors after the “cum-ex” scandal in Germany, where borrowed shares were allegedly used in a tax evasion scheme.

Voting Rights Transferred

Another one of the biggest criticisms of share lending is that shareholder voting rights attached to the actual stock are transferred to the borrower.

This practice challenges the traditional model, in which institutional investors vote and push for change in companies in order to maximize shareholder value for their investors. Money managers can recall shares in order to cast a vote in an upcoming shareholder meeting. But there are concerns that they don’t, and it’s unclear how often they do.

A Hidden Problem

Another concern is that share lending programs incentivize money managers to own stocks that are popular to borrow, but may underperform. A 2017 paper entitled “Distortions Caused By Lending Fee Retention,” updated in June 2023, found that mutual funds that practice securities lending tend to overweight high-fee stocks which then underperform versus funds that do not rent out shares.

Pros and Cons of Share Lending

There are numerous pros and cons to share lending.

Pros

The most obvious upside for investors is that they may be able to open up an additional revenue stream to increase their returns by lending their shares. Along the same lines, share lending can also help investors turn otherwise dormant investments into return-boosters, under the right circumstances.

Also, lending shares allows for investors to lend their shares to short-sellers – thereby greasing the wheels of the market and allowing short-sellers to do their work. It adds liquidity to the market, in other words.

Cons

One downside to share lending is that retail investors should take note that securities that have been loaned are not protected by the Securities Investor Protection Corporation (SIPC). The SIPC, however, does protect the cash collateral received for the loaned securities for up to $250,000.

There can also be negative tax consequences when lending out shares of stock. You don’t receive dividends for the stocks you’ve loaned out, but you do get Payment in Lieu that’s equal to the value of the dividends paid on loan shares. Unfortunately, though, these payments are taxed at your marginal tax rate, not the more favorable dividend rate.

Another concern is the increase in counterparty risk (similar to credit risk). Let’s say a short seller’s wager goes sour. If the shorted stock rallies enough, the short seller could default and there’s a risk that the collateral posted to the lender isn’t enough to cover the cost of the shares on loan.

Finally, there may be additional and special criteria that investors need to meet in order to qualify for share-lending programs. This will depend on individual brokerages or platforms, however. And a final note: If you use a platform that allows you to buy or trade fractional shares, those fractional shares may not be eligible for share lending, either.

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Pros:

•   Potential to earn more revenue

•   Allows investors to boost returns from dormant investments

•   Adds liquidity to short-seller market

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Cons:

•   Lack of SIPC protection

•   Increased counterparty risk (the borrower may default)

•   You’re taxed at the marginal rate on payments in lieu of dividends

•   Investors may need to qualify

Test your understanding of what you just read.

The Takeaway

Share lending or securities lending is a potential source of revenue for institutional investors and brokerage firms, who rent out shares that otherwise would have sat idly in portfolios. The practice has ramped up in recent years as management and brokerage fees have shrunk dramatically due to competition and the popularity of index investing.

There are pros and cons, however, as there’s always a risk that a borrower could default. That’s offset, naturally, by the chance to earn additional revenue and boost your ultimate returns. But there are no guarantees.

Ready to invest in your goals? It’s easy to get started when you open an investment account with SoFi Invest. You can invest in stocks, exchange-traded funds (ETFs), mutual funds, alternative funds, and more. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).

For a limited time, opening and funding an Active Invest account gives you the opportunity to get up to $1,000 in the stock of your choice.

FAQ

What are the risks of share lending?

Some of the biggest risks of share lending are counterparty risk (or, the risk that a borrower will default and not be able to return your shares); the fact that you may lose SIPC protection on your shares; and that you may need to qualify in order to actually lend shares.

What exactly happens when you lend shares?

When you lend shares, ownership is temporarily transferred to a borrower, who transfers other shares or investments to the lender as collateral. The borrower also pays the lender a fee for the privilege of borrowing their shares.

Does share lending save money?

It doesn’t necessarily save money, but it can be a way to earn more money or drive more revenue from your owned investments. By lending out shares, you can garner fees from borrowers, amounting to a boost to your overall return.

SoFi Invest®

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

SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

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.

Claw Promotion: Customer must fund their Active Invest account with at least $50 within 30 days of opening the account. Probability of customer receiving $1,000 is 0.028%. See full terms and conditions.

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Feb
25
2025

Guide to Maxing Out Your 401(k)

By | Budgeting & Goals, Growing Wealth, invest, Investing | No Comments

Maxing out your 401(k) involves contributing the maximum allowable to your workplace retirement account to increase the benefit of compounding and appreciating assets over time.

All retirement plans come with contribution caps, and when you hit that limit it means you’ve maxed out that particular account.

There are a lot of things to consider when figuring out how to max out your 401(k) account. And if you’re a step ahead, you may also wonder what to do after you max out your 401(k).

Key Points

•   Maxing out your 401(k) contributions can help you save more for retirement and take advantage of tax benefits.

•   If you want to max out your 401(k), strategies include contributing enough to get the full employer match, increasing contributions over time, utilizing catch-up contributions if eligible, automating contributions, and adjusting your budget to help free up funds for additional 401(k) contributions.

•   Diversifying your investments within your 401(k) and regularly reviewing and rebalancing your portfolio can optimize your returns.

•   Seeking professional advice and staying informed about changes in contribution limits and regulations can help you make the most of your 401(k).

What Exactly Does It Mean to ‘Max Out Your 401(k)?’

Maxing out your 401(k) means that you contribute the maximum amount allowed by law in a given year, as specified by the established 401(k) contribution limits. But it can also mean that you’re maxing out your contributions up to an employer’s percentage match, too.

If you want to max out your 401(k) in 2024, you’ll need to contribute $23,000. If you’re 50 or older, you can contribute an additional $7,500, for an annual total of $30,500. If you want to max out your 401(k) in 2025, you’ll need to contribute $23,500. If you’re 50 or older, you can contribute an additional $7,500, for an annual total of $31,000. In addition, in 2025, those aged 60 to 63 may contribute an additional $11,250 instead of $7,500, thanks to SECURE 2.0, for an annual total of $34,750.

Should You Max Out Your 401(k)?

4 Goals to Meet Before Maxing Out Your 401(k)

Generally speaking, yes, it’s a good thing to max out your 401(k) so long as you’re not sacrificing your overall financial stability to do it. Saving for retirement is important, which is why many financial experts would likely suggest maxing out any employer match contributions first.

But while you may want to take full advantage of any tax and employer benefits that come with your 401(k), you also want to consider any other financial goals and obligations you have before maxing out your 401(k).

That doesn’t mean you should put other goals first, and not contribute to your retirement plan at all. That’s not wise. Maintaining a baseline contribution rate for your future is crucial, even as you continue to save for shorter-term aims or put money toward debt repayment.

Other goals could include:

•   Is all high-interest debt paid off? High-interest debt like credit card debt should be paid off first, so it doesn’t accrue additional interest and fees.

•   Do you have an emergency fund? Life can throw curveballs—it’s smart to be prepared for job loss or other emergency expenses.

•   Is there enough money in your budget for other expenses? You should have plenty of funds to ensure you can pay for additional bills, like student loans, health insurance, and rent.

•   Are there other big-ticket expenses to save for? If you’re saving for a large purchase, such as a home or going back to school, you may want to put extra money toward this saving goal rather than completely maxing out your 401(k), at least for the time being.

Once you can comfortably say that you’re meeting your spending and savings goals, it might be time to explore maxing out your 401(k). There are many reasons to do so — it’s a way to take advantage of tax-deferred savings, employer matching (often referred to as “free money”), and it’s a relatively easy and automatic way to invest and save, since the money gets deducted from your paycheck once you’ve set up your contribution amount.

How to Max Out Your 401(k)

Only a relatively small percentage of people actually do max out their 401(k)s, however. Here are some strategies for how to max out your 401(k).

1. Max Out 401(k) Employer Contributions

Your employer may offer matching contributions, and if so, there are typically rules you will need to follow to take advantage of their match.

An employer may require a minimum contribution from you before they’ll match it, or they might match only up to a certain amount. They might even stipulate a combination of those two requirements. Each company will have its own rules for matching contributions, so review your company’s policy for specifics.

For example, suppose your employer will match your contribution up to 3%. So, if you contribute 3% to your 401(k), your employer will contribute 3% as well. Therefore, instead of only saving 3% of your salary, you’re now saving 6%. With the employer match, your contribution just doubled. Note that employer contributions can range from nothing at all to upwards of 15%. It depends.

Since saving for retirement is one of the best investments you can make, it’s wise to take advantage of your employer’s match. Every penny helps when saving for retirement, and you don’t want to miss out on this “free money” from your employer.

If you’re not already maxing out the matching contribution and wish to, you can speak with your employer (or HR department, or plan administrator) to increase your contribution amount, you may be able to do it yourself online.

2. Max Out Salary-Deferred Contributions

While it’s smart to make sure you’re not leaving free money on the table, maxing out your employer match on a 401(k) is only part of the equation.

In order to make sure you’re setting aside an adequate amount for retirement, consider contributing as much as your budget will allow. Again, individuals younger than age 50 can contribute up to $23,000 in salary deferrals in 2024 and up to $23,500 in 2025, while those 50 and over can contribute more in catch-up contributions.

It’s called a “salary deferral” because you aren’t losing any of the money you earn; you’re putting it in the 401(k) account and deferring it until later in life.

Those contributions aren’t just an investment in your future lifestyle in retirement. Because they are made with pre-tax dollars, they lower your taxable income for the year in which you contribute. For some, the immediate tax benefit is as appealing as the future savings benefit.

3. Take Advantage of Catch-Up Contributions

As mentioned, 401(k) catch-up contributions allow investors aged 50 and over to increase their retirement savings — which is especially helpful if they’re behind in reaching their retirement goals.

Individuals 50 and over can contribute an additional $7,500 for a total of $30,500 in 2024, and can contribute an additional $7,500 for a total of $31,000 in 2025. And again, in 2025, those aged 60 to 63 can contribute an additional $11,250, instead of $7,500, for a total of $34,750. Putting all of that money toward retirement savings can help you truly max out your 401(k).

As you draw closer to retirement, catch-up contributions can make a difference, especially as you start to calculate when you can retire. Whether you have been saving your entire career or just started, this benefit is available to everyone who qualifies.

And of course, this extra contribution will lower taxable income even more than regular contributions. Although using catch-up contributions may not push everyone to a lower tax bracket, it will certainly minimize the tax burden during the next filing season.

4. Reset Your Automatic 401(k) Contributions

When was the last time you reviewed your 401(k)? It may be time to check in and make sure your retirement savings goals are still on track. Is the amount you originally set to contribute each paycheck still the correct amount to help you reach those goals?

With the increase in contribution limits most years, it may be worth reviewing your budget to see if you can up your contribution amount to max out your 401(k). If you don’t have automatic payroll contributions set up, you could set them up.

It’s generally easier to save money when it’s automatically deducted; a person is less likely to spend the cash (or miss it) when it never hits their checking account in the first place.

If you’re able to max out the full 401(k) limit, but fear the sting of a large decrease in take-home pay, consider a gradual, annual increase such as 1% — how often you increase it will depend on your plan rules as well as your budget.

5. Put Bonus Money Toward Retirement

Unless your employer allows you to make a change, your 401(k) contribution will likely be deducted from any bonus you might receive at work. Many employers allow you to determine a certain percentage of your bonus check to contribute to your 401(k).

Consider possibly redirecting a large portion of a bonus to 401k contributions, or into another retirement account, like an individual retirement account (IRA). Because this money might not have been expected, you won’t miss it if you contribute most of it toward your retirement.

You could also do the same thing with a raise. If your employer gives you a raise, consider putting it directly toward your 401(k). Putting this money directly toward your retirement can help you inch closer to maxing out your 401(k) contributions.

6. Maximize Your 401(k) Returns and Fees

Many people may not know what they’re paying in investment fees or management fees for their 401(k) plans. By some estimates, the average fees for 401(k) plans are between 1% and 2%, but some plans can have up to 3.5%.

Fees add up — even if your employer is paying the fees now, you’ll have to pay them if you leave the job and keep the 401(k).

Essentially, if an investor has $100,000 in a 401(k) and pays $1,000 or 1% (or more) in fees per year, the fees could add up to thousands of dollars over time. Any fees you have to pay can chip away at your retirement savings and reduce your returns.

It’s important to ensure you’re getting the most for your money in order to maximize your retirement savings. If you are currently working for the company, you could discuss high fees with your HR team. One of the easiest ways to lower your costs is to find more affordable investment options. Typically, the biggest bargains can be index funds, which often charge lower fees than other investments.

If your employer’s plan offers an assortment of low-cost index funds or institutional funds, you can invest in these funds to build a diversified portfolio.

If you have a 401(k) account from a previous employer, you might consider moving your old 401(k) into a lower-fee plan. It’s also worth examining what kind of funds you’re invested in and if it’s meeting your financial goals and risk tolerance.

What Happens If You Contribute Too Much to Your 401(k)?

After you’ve maxed out your 401(k) for the year — meaning you’ve hit the contribution limit corresponding to your age range — then you’ll need to stop making contributions or risk paying additional taxes on your overcontributions.

In the event that you do make an overcontribution, you’ll need to take some additional steps such as letting your plan manager or administrator know, and perhaps withdrawing the excess amount. If you leave the excess in the account, it’ll be taxed twice — once when it was contributed initially, and again when you take it out.

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What to Do After Maxing Out a 401(k)?

If you max out your 401(k) this year, pat yourself on the back. Maxing out your 401(k) is a financial accomplishment. But now you might be wondering, what’s next? Here are some additional retirement savings options to consider if you have already maxed out your 401(k).

Open an IRA

An individual retirement account (IRA) can be a good complement to your employer’s retirement plans. With a traditional IRA, you can contribute pre-tax dollars up to the annual limit, which is $7,000 in 2024 and in 2025. If you’re 50 or older, you can contribute an extra $1,000, for an annual total of $8,000 in 2024 and 2025.

You may also choose to consider a Roth IRA. As with a traditional IRA, the annual contribution limit for a Roth IRA in 2024 and 2025 is $7,000, and $8,000 for those 50 or older. Roth IRA accounts have income limits, but if you’re eligible, you can contribute with after-tax dollars, which means you won’t have to pay taxes on earnings withdrawals in retirement as you do with traditional IRAs.

You can open an IRA at a brokerage, mutual fund company, or other financial institution. If you ever leave your job, you can typically roll your employer’s 401(k) into your IRA without facing tax consequences as long as both accounts are similarly taxed, such as rolling funds from a traditional 401(k) to a traditional IRA, and funds are transferred directly from one plan to the other. Doing a rollover may allow you to invest in a broader range of investments with lower fees.

Boost an Emergency Fund

Experts often advise establishing an emergency fund with at least six months of living expenses before contributing to a retirement savings plan. Perhaps you’ve already done that — but haven’t updated that account in a while. As your living expenses increase, it’s a good idea to make sure your emergency fund grows, too. This will cover you financially in case of life’s little curveballs: new brake pads, a new roof, or unforeseen medical expenses.

The money in an emergency fund should be accessible at a moment’s notice, which means it needs to comprise liquid assets such as cash. You’ll also want to make sure the account is FDIC insured, so that your money is protected if something happens to the bank or financial institution.

Save for Health Care Costs

Contributing to a health savings account (HSA) can reduce out-of-pocket costs for expected and unexpected health care expenses, though you can only open and contribute to an HSA if you are enrolled in a high-deductible health plan (HDHP).

For tax year 2024, those eligible can contribute up to $4,150 pre-tax dollars for an individual plan or up to $8,300 for a family plan. For tax year 2025, those eligible can contribute up to $4,300 pre-tax dollars for an individual plan or up to $8,550 for a family plan. For 2024 and 2025, those 55 or older can make an additional catch-up contribution of $1,000 per year.

The money in this account can be used for qualified out-of-pocket medical expenses such as copays for doctor visits and prescriptions. Another option is to leave the money in the account and let it grow for retirement. Once you reach age 65, you can take out money from your HSA without a penalty for any purpose. However, to be exempt from taxes, the money must be used for a qualified medical expense. Any other reasons for withdrawing the funds will be subject to regular income taxes.

Increase College Savings

If you’re feeling good about maxing out your 401(k), consider increasing contributions to your child’s 529 college savings plan (a tax-advantaged account meant specifically for education costs, sponsored by states and educational institutions).

College costs continue to creep up every year. Helping your children pay for college helps minimize the burden of college expenses, so they hopefully don’t have to take on many student loans.

Open a Brokerage Account

After you max out your 401(k), you may also consider opening a brokerage account. Brokerage firms offer various types of investment account brokerage accounts, each with different services and fees. A full-service brokerage firm may provide different financial services, which include allowing you to trade securities.

Many brokerage firms require you to have a certain amount of cash to open their accounts and have enough funds to account for trading fees and commissions. While there are no limits on how much you can contribute to the account, earned dividends are taxable in the year they are received. Therefore, if you earn a profit or sell an asset, you must pay a capital gains tax. On the other hand, if you sell a stock at a loss, that becomes a capital loss. This means that the transaction may yield a tax break by lowering your taxable income.

Pros and Cons of Maxing Out Your 401(k)

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Pros:

•   Increased Savings and Growth: Your retirement savings account will be bigger, which can lead to more growth over time.

•   Simplified Saving and Investing: Can also make your saving and investing relatively easy, as long as you’re taking a no-lift approach to setting your money aside thanks to automatic contributions.

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Cons:

•   Affordability: Maxing out a 401(k) may not be financially feasible for everyone. May be challenging due to existing debt or other savings goals.

•   Opportunity Costs: Money invested in retirement plans could be used for other purposes. During strong stock market years, non-retirement investments may offer more immediate access to funds.

Test your understanding of what you just read.

The Takeaway

Maxing out your 401(k) involves matching your employer’s maximum contribution match, and also, contributing as much as legally allowed to your retirement plan in a given year. If you have the flexibility in your budget to do so, maxing out a 401(k) can be an effective way to build retirement savings.

And once you max out your 401(k)? There are other smart ways to direct your money. You can open an IRA, contribute more to an HSA, or to a child’s 529 plan. If you’re looking to roll over an old 401(k) into an IRA, or open a new one, SoFi Invest® can help. SoFi doesn’t charge commissions (the full fee schedule is here), and you can access a complimentary 30-min session with a SoFi Financial Planner.

For a limited time, opening and funding an Active Invest account gives you the opportunity to get up to $1,000 in the stock of your choice.

FAQ

What happens if I max out my 401(k) every year?

Assuming you don’t overcontribute, you may see your retirement savings increase if you max out your 401(k) every year, and hopefully, be able to reach your retirement and savings goals sooner.

Will You Have Enough to Retire After Maxing Out 401(k)?

There are many factors that need to be considered, however, start by getting a sense of how much you’ll need to retire by using a retirement expense calculator. Then you can decide whether maxing out your 401(k) for many years will be enough to get you there, even assuming an average stock market return and compounding built in.

First and foremost, you’ll need to consider your lifestyle and where you plan on living after retirement. If you want to spend a lot in your later years, you’ll need more money. As such, a 401(k) may not be enough to get you through retirement all on its own, and you may need additional savings and investments to make sure you’ll have enough.

About the author

Ashley Kilroy

Ashley Kilroy

Ashley Kilroy is a personal finance writer and content creator with a passion for providing millennials and young professionals the tools and resources they need to better manage their finances. Read full bio.

Claw Promotion: Customer must fund their Active Invest account with at least $50 within 30 days of opening the account. Probability of customer receiving $1,000 is 0.028%. See full terms and conditions.

SoFi Invest®

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

SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

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.

Third Party Trademarks: Certified Financial Planner Board of Standards Inc. (CFP Board) owns the certification marks CFP®, CERTIFIED FINANCIAL PLANNER®, CFP® (with plaque design), and CFP® (with flame design) in the U.S., which it awards to individuals who successfully complete CFP Board's initial and ongoing certification requirements.

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Feb
25
2025
The Ultimate List of Financial Ratios

The Ultimate List of Financial Ratios

By | Growing Wealth, invest, Investing | Comments Off on The Ultimate List of Financial Ratios

Financial ratios are numerical calculations that illustrate the relationship between one piece or group of data and another. Business owners use financial statement ratios to performance, assess risk and guide decision-making. For investors, these calculations can provide meaningful data that reflects a company’s liquidity and financial health.

The use of financial ratios is often central to a quantitative or fundamental analysis approach, though they can also be used for technical analysis. For example, a value investor may use certain types of financial ratios to indicate whether the market has undervalued a company or how much potential its stock has for long-term price appreciation. Meanwhile, a trend trader may check key financial ratios to determine if a current pricing trend is likely to hold.

With either strategy, informed investors must understand the different kinds of commonly used financial ratios, and how to interpret them.

Key Points

•   Financial ratios serve as essential tools for evaluating a company’s performance, risk, and overall financial health, assisting both business owners and investors in decision-making.

•   Key financial ratios include Earnings Per Share (EPS), Price-to-Earnings (P/E), and Debt to Equity (D/E), each providing insights into profitability, valuation, and leverage.

•   Liquidity ratios, such as the Current Ratio and Quick Ratio, help assess a company’s ability to meet short-term obligations, crucial for evaluating newer firms.

•   Profitability ratios, including Gross Margin and Return on Assets, gauge how effectively a company generates income from its operations and assets.

•   Coverage ratios, like the Debt Service Coverage Ratio and Interest Coverage Ratio, measure a company’s capacity to manage its debt obligations, providing insights into financial stability.

What Are Financial Ratios?

A financial ratio is a means of expressing the relationship between two pieces of numerical data. When discussing ratios in a business or investment setting, you’re typically talking about information that’s included in a company’s financial statements.

Recommended: How to Read Financial Statements

Financial ratios can provide insight into a company, in terms of things like valuation, revenues, and profitability. They can also aid in comparing two companies.

For example, say you’re considering investing in the tech sector, and you are evaluating two potential companies. One has a share price of $10 while the other has a share price of $55. Basing your decision solely on price alone could be a mistake if you don’t understand what’s driving share prices or how the market values each company. That’s where financial ratios become useful for understanding a company’s inner workings.


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Key Financial Ratios

Investors tend to use some financial ratios more often or place more significance on certain ratios when evaluating business or companies. Here are some of the most important financial ratios to know.

1. Earnings Per Share (EPS)

Earnings per share or EPS measures earnings and profitability. This metric can tell you how likely a company is to generate profits for its investors. A higher EPS typically indicates better profitability, though this rule works best when making apples-to-apples comparisons for companies within the same industry.

EPS Formula:

EPS = Net profit / Number of common shares

To find net profit, you’d subtract total expenses from total revenue. (Investors might also refer to net profit as net income.)

EPS Example:

So, assume a company has a net profit of $2 million, with 12,000,000 shares outstanding. Following the EPS formula, the earnings per share works out to $0.166.

2. Price-to-Earnings (P/E)

Price-to-earnings ratio or P/E helps investors determine whether a company’s stock price is low or high compared to other companies or to its own past performance. More specifically, the price-to-earnings ratio can give you a sense of how expensive a stock is relative to its competitors, or how the stock’s price is trending over time.

P/E Formula:

P/E = Current stock price / Current earnings per share

P/E Example:

Here’s how it works: A company’s stock is trading at $50 per share. Its EPS for the past 12 months averaged $5. The price-to-earnings ratio works out to 10, meaning investors would have to spend $10 for every dollar generated in annual earnings.

3. Debt to Equity (D/E)

Debt to equity or D/E is a leverage ratio. This ratio tells investors how much debt a company has in relation to how much equity it holds.

D/E Formula:

D/E = Total liabilities / Shareholders equity

In this formula, liabilities represent money the company owes. Equity represents assets minus liabilities or the company’s book value.

D/E Example:

Say a company has $5 million in debt and $10 million in shareholder equity. Its debt-to-equity ratio would be 0.5. As a general rule, a lower debt to equity ratio is better as it means the company has fewer debt obligations.

4. Return on Equity (ROE)

Return on equity or ROE is another financial ratio that’s used to measure profitability. In simple terms, it’s used to illustrate the return on shareholder equity based on how a company spends its money.

ROE Formula:

ROE = Net income – Preferred dividends / Value of average common equity

ROE Example:

Assume a company has net income of $2 million and pays out preferred dividends of $200,000. The total value of common equity is $10 million. Using the formula, return on equity would equal 0.18 or 18%. A higher ROE means the company generates more profits.

Liquidity Ratios

Liquidity ratios can give you an idea of how easily a company can pay its debts and other liabilities. In other words, liquidity ratios indicate cash flow strength. That can be especially important when considering newer companies, which may face more significant cash flow challenges compared to established companies.

5. Current Ratio

Also known as the working-capital ratio, the current ratio tells you how likely a company is able to meet its financial obligations for the next 12 months. You might check this ratio if you’re interested in whether a company has enough assets to pay off short-term liabilities.

Formula:

Current Ratio = Current Assets / Current Liabilities

Example:

Say a company has $1 million in current assets and $500,000 in current liabilities. It has a current ratio of 2, meaning for every $1 a company has in current liabilities it has $2 in current assets.

6. Quick Ratio

The quick ratio, also called the acid-test ratio, measures liquidity based on assets and liabilities. But it deducts the value of inventory from these calculations.

Formula:

Quick Ratio = Current Assets – Inventory / Current Liabilities

Example:

Quick ratio is also useful for determining how easily a company can pay its debts. For example, say a company has current assets of $5 million, inventory of $1 million and current liabilities of $500,000. Its quick ratio would be 8, so for every $1 in liabilities the company has $8 in assets.

7. Cash Ratio

A cash ratio tells you how much cash a company has on hand, relative to its total liabilities. Essentially, it tells you how easily a company could pay its liabilities with cash.

Formula:

Cash Ratio = (Cash + Cash Equivalents) / Total Current Liabilities

Example:

A company that has $100,000 in cash and $500,000 in current liabilities would have a cash ratio of 0.2. That means it has enough cash on hand to pay 20% of its current liabilities.

8. Operating Cash Flow Ratio

Operating cash flow can tell you how much cash flow a business generates in a given time frame. This financial ratio is useful for determining how much cash a business has on hand at any given time that it can use to pay off its liabilities.

To calculate the operating cash flow ratio you’ll first need to determine its operating cash flow:

Operating Cash Flow = Net Income + Changes in Assets & Liabilities + Non-cash Expenses – Increase in Working Capital

Then, you calculate the cash flow ratio using this formula:

Formula:

Operating Cash Flow Ratio = Operating Cash Flow / Current Liabilities

Example:

For example, if a company has an operating cash flow of $1 million and current liabilities of $250,000, you could calculate that it has an operating cash flow ratio of 4, which means it has $4 in operating cash flow for every $1 of liabilities.

Solvency Ratios

Solvency ratios are financial ratios used to measure a company’s ability to pay its debts over the long term. As an investor, you might be interested in solvency ratios if you think a company may have too much debt or be a potential candidate for a bankruptcy filing. Solvency ratios can also be referred to as leverage ratios.

Debt to equity is a key financial ratio used to measure solvency, though there are other leverage ratios that are helpful as well.

9. Debt Ratio

A company’s debt ratio measures the relationship between its debts and its assets. For instance, you might use a debt ratio to gauge whether a company could pay off its debts with the assets it has currently.

Formula:

Debt Ratio = Total Liabilities / Total Assets

Example:

The lower this number is the better in terms of risk. A lower debt ratio means a company has less relative debt. So a company that has $25,000 in debt and $100,000 in assets, for example, would have a debt ratio of 0.25. Investors typically consider anything below 0.5 a lower risk.

10. Equity Ratio

Equity ratio is a measure of solvency based on assets and total equity. This ratio can tell you how much of the company is owned by investors and how much of it is leveraged by debt.

Formula:

Equity Ratio = Total Equity / Total Assets

Example:

Investors typically favor a higher equity ratio, as it means the company’s shareholders are more heavily invested and the business isn’t bogged down by debt. So, for example, a company with $200,000 in total equity and $200,000 in total assets has an equity ratio of 0.80. This tells you shareholders own 80% of the company.


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Profitability Ratios

Profitability ratios gauge a company’s ability to generate income from sales, balance sheet assets, operations and shareholder’s equity. In other words, how likely is the company to be able to turn a profit?

Return on equity is one profitability ratio investors can use. You can also try these financial ratios for estimating profitability.

11. Gross Margin Ratio

Gross margin ratio compares a company’s gross margin to its net sales. This tells you how much profit a company makes from selling its goods and services after the cost of goods sold is factored in.

Formula:

Gross Margin Ratio = Gross Margin / Net Sales

Example

A company that has a gross margin of $250,000 and $1 million in net sales has a gross margin ratio of 25%. Meanwhile, a company with a $250,000 gross margin and $2 million in net sales has a gross margin ratio of 12.5% and realizes a smaller profit percentage per sale.

12. Operating-Margin Ratio

Operating-margin ratio measures how much total revenue is composed of operating income, or how much revenue a company has after its operating costs.

Formula:

Operating Margin Ratio = Operating Income / Net Sales

Example:

A higher operating-margin ratio suggests a more financially stable company with enough operating income to cover its operating costs. For example, if operating income is $250,000 and net sales are $500,000, that means 50 cents per dollar of sales goes toward variable costs.

13. Return on Assets Ratio

Return on assets or ROA measures net income produced by a company’s total assets. This lets you see how good a company is at using its assets to generate income.

Formula:

Return on Assets = Net Income / Average Total Assets

Example:

Investors typically favor a higher ratio as it shows that the company may be better at using its assets to generate income. For example, a company that has $10 million in net income and $2 million in average total assets generates $5 in income per $1 of assets.

Efficiency Ratios

Efficiency ratios or financial activity ratios give you a sense of how thoroughly a company is using the assets and resources it has on hand. In other words, they can tell you if a company is using its assets efficiently or not.

14. Asset Turnover Ratio

Asset turnover ratio is a way to see how much sales a company can generate from its assets.

Formula:

Asset Turnover Ratio = Net Sales / Average Total Assets

A higher asset turnover ratio is typically better, as it indicates greater efficiency in terms of how assets are being used to produce sales.

Example:

Say a company has $500,000 in net sales and $50,000 in average total assets. Their asset turnover ratio is 10, meaning every dollar in assets generates $10 in sales.

15. Inventory Turnover Ratio

Inventory turnover ratio illustrates how often a company turns over its inventory. Specifically, how many times a company sells and replaces its inventory in a given time frame.

Formula:

Inventory Turnover Ratio = Cost of Goods Sold / Average Inventory

Example:

Investors use average inventory since a company’s inventory can increase or decrease throughout the year as demand ebbs and flows. As an example, if a company has a cost of goods sold equal to $1 million and average inventory of $500,000, its inventory turnover ratio is 2. That means it turns over inventory twice a year.

16. Receivables Turnover Ratio

Receivables turnover ratio measures how well companies manage their accounts receivable. Specifically, it considers how long it takes companies to collect on outstanding receivables.

Formula:

Receivables Turnover Ratio = Net Annual Credit Sales / Average Accounts Receivable

Example:

If a company has $100,000 in net annual credit sales, for example, and $15,000 in average accounts receivable its receivables turnover ratio is 6.67. The higher the number is, the better, since it indicates the business is more efficient at getting customers to pay up.

Coverage Ratios

Coverage ratios are financial ratios that measure how well a company manages its obligations to suppliers, creditors, and anyone else to whom it owes money. Lenders may use coverage ratios to determine a business’s ability to pay back the money it borrows.

17. Debt Service Coverage Ratio

Debt service coverage reflects whether a company can pay all of its debts, including interest and principal, at any given time. This ratio can offer creditors insight into a company’s cash flow and debt situation.

Formula:

Debt Service Coverage Ratio = Operating Income / Total Debt Service Costs

Example:

A ratio above 1 means the company has more than enough money to meet its debt servicing needs. A ratio equal to 1 means its operating income and debt service costs are the same. A ratio below 1 indicates that the company doesn’t have enough operating income to meet its debt service costs.

18. Interest Coverage Ratio

Interest-coverage ratio is a financial ratio that can tell you whether a company is able to pay interest on its debt obligations on time. This is also called the times earned interest ratio.

Formula:

Interest Coverage Ratio = EBIT ( Earnings Before Interest and Taxes) / Annual Interest Expense

Example:

Let’s say a company has an EBIT of $100,000. Meanwhile, annual interest expense is $25,000. That results in an interest coverage ratio of 4, which means the company has four times more earnings than interest payments.

19. Asset-Coverage Ratio

Asset-coverage ratio measures risk by determining how much of a company’s assets would need to be sold to cover its debts. This can give you an idea of a company’s financial stability overall.

Formula:

Asset Coverage Ratio = (Total Assets – Intangible Assets) – (Current Liabilities – Short-term Debt) / Total Debt

You can find all of this information on a company’s balance sheet. The rules for interpreting asset coverage ratio are similar to the ones for debt service coverage ratio.

So a ratio of 1 or higher would suggest the company has sufficient assets to cover its debts. A ratio of 1 would suggest that assets and liabilities are equal. A ratio below 1 means the company doesn’t have enough assets to cover its debts.

Market-Prospect Ratios

Market-prospect ratios make it easier to compare the stock price of a publicly traded company with other financial ratios. These ratios can help analyze trends in stock price movements over time. Earnings per share and price-to-earnings are two examples of market prospect ratios. Investors can also look to dividend payout ratios and dividend yield to judge market prospects.

20. Dividend Payout Ratio

Dividend payout ratio can tell you how much of a company’s net income it pays out to investors as dividends during a specific time period. It’s the balance between the profits passed on to shareholders as dividends and the profits the company keeps.

Formula:

Dividend Payout Ratio = Total Dividends / Net Income

Example:

A company that pays out $1 million in total dividends and has a net income of $5 million has a dividend payout ratio of 0.2. That means 20% of net income goes to shareholders.

21. Dividend Yield

Dividend yield is a financial ratio that tracks how much cash dividends are paid out to common stock shareholders, relative to the market value per share. Investors use this metric to determine how much an investment generates in dividends.

Formula:

Dividend Yield = Cash Dividends Per Share / Market Value Per Share

Example:

For example, a company that pays out $5 in cash dividends per share for shares valued at $50 each are offering investors a dividend yield of 10%.

Ratio Analysis: What Do Financial Ratios Tell You?

Financial statement ratios can be helpful when analyzing stocks. The various formulas included on this financial ratios list offer insight into a company’s profitability, cash flow, debts and assets, all of which can help you form a more complete picture of its overall health. That’s important if you tend to lean toward a fundamental analysis approach for choosing stocks.

Using financial ratios can also give you an idea of how much risk you might be taking on with a particular company, based on how well it manages its financial obligations. You can use these ratios to select companies that align with your risk tolerance and desired return profile.

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The Takeaway

Learning the basics of key financial ratios can be a huge help when constructing a stock portfolio. Rather than focusing on a stock’s price, you can use financial ratios to take a closer look under the hood of a company.

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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.

SoFi Invest®

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

SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

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2025
457 vs. 401(k): A Detailed Comparison

457 vs 401(k): A Detailed Comparison

By | invest, Investing, Preparing for Retirement | Comments Off on 457 vs 401(k): A Detailed Comparison

Depending on where you work, you may be able to save for retirement in a 457 plan or a 401(k). While any employer can offer a 401(k), a 457 plan is commonly associated with state and local governments and certain eligible nonprofits.

Both offer tax advantages, though they aren’t exactly the same when it comes to retirement saving. Understanding the differences between a 457 retirement plan vs. 401(k) plans can help you decide which one is best for you.

And you may not have to choose: Your employer could offer a 401(k) plan and a 457 plan as retirement savings options. If you’re able to make contributions to both plans simultaneously, you could do so up to the maximum annual contribution limits — a terrific savings advantage for individuals in organizations that offer both plans.

Key Points

•   A 457 plan and a 401(k) are retirement savings options with tax advantages.

•   Both plans have contribution limits and may offer employer matching contributions.

•   A 401(k) is governed by ERISA, while a 457 plan is not.

•   457 plans allow penalty-free withdrawals before age 59 ½ if you retire, unlike 401(k) plans.

•   457 plans have special catch-up provisions for those nearing retirement.

401(k) Plans

A 401(k) is a tax-advantaged, defined contribution plan. Specifically, it’s a type of retirement plan that’s recognized or qualified under the Employee Retirement Income Security Act (ERISA).

With a 401(k) plan, the amount of benefits you can withdraw in retirement depends on how much you contribute during your working years and how much those contributions grow over time.

Understanding 401(k) Contributions

A 401(k) plan is funded with pre-tax dollars, meaning that contributions reduce your taxable income in the year you make them. And withdrawals are taxed at your ordinary income tax rate in retirement.

Some employers may offer a Roth 401(k) option, which would enable you to deposit after-tax funds, and withdraw money tax-free in retirement.

401(k) Contribution Limits

The IRS determines how much you can contribute to a 401(k) each year. For 2024, the annual contribution limit is $23,000; for 2025, it’s $23,500. Workers aged 50 or older can contribute an additional $7,500 in catch-up contributions in 2024 and 2025. And in 2025, those 60 to 63 may contribute an additional catch-up of $11,250 instead of $7,500, thanks to SECURE 2.0.

Employers can elect to make matching contributions to a 401(k) plan, though they’re not required to. If an employer does offer a match, it may be limited to a certain amount. For example, your employer might match 50% of contributions, up to the first 6% of your income.

401(k) Investment Options

Money you contribute to a 401(k) can be invested in such assets as mutual funds, index funds, target-date funds, and exchange-traded funds (ETFs). Your investment options are determined by the plan administrator. Each investment can carry different fees, and there may be additional fees charged by the plan itself.

Traditional 401(k)s are subject to required minimum distribution (RMD) rules beginning at age 73 (for those who turned 72 after December 31, 2022). However, as of 2024, Roth 401(k)s no longer require RMDs. That’s something to consider when you’re thinking about your income strategy in retirement.

Recommended: 5 Steps to Investing in Your 401k Savings Account

Vesting in a 401(k) Retirement Plan

A 401(k) plan is subject to IRS vesting rules. Vesting determines when the funds in the account belong to you. If you’re 100% vested in your account, then all of the money in it is yours.

Employee contributions to a 401(k) are always 100% vested. The amount of employer matching contributions you get to keep can depend on where you are on the company’s vesting schedule. Amounts that aren’t vested can be forfeited if you decide to leave your job — at which point you may decide to open an IRA and roll over your 401(k) into it.

Employers may use a cliff vesting approach in which your percentage of ownership is determined by year. For instance, in year one and two, your ownership claim is 0%. Once you reach year three and beyond, you’re 100% vested.

With graded vesting, the percentage increases gradually over time. So, you might be 20% vested after year two and 100% vested after year six.

All employees in the plan must be 100% vested by the time they reach their full retirement age, which may or may not be the same as their date of retirement. The IRS also mandates 100% vesting when a 401(k) plan is terminated.

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1Terms and conditions apply. Roll over a minimum of $20K to receive the 1% match offer. Matches on contributions are made up to the annual limits.

457 Plans

A 457 plan is a deferred compensation plan that can be offered to state and local government employees, as well as employees of certain tax-exempt organizations. The most common version is the 457(b); the 457(f) is a deferred compensation plan for highly paid executives. In certain ways, a 457 is very similar to a 401(k), such as:

•   Employees can defer part of their salary into a 457 plan and those contributions are tax-deferred. Earnings on contributions are also tax-deferred.

•   A 457 plan can allow for designated Roth contributions. If you take the traditional 457 route, qualified withdrawals would be taxed at your ordinary income tax rate when you retire.

•   Traditional 457 accounts are subject to RMDs once you turn 73; Roth-designated 457 accounts are not.

•   For 2024, the annual contribution limit is $23,000, and $7,500 for the catch-up amount for workers who are 50 or older. For 2025, the annual contribution limit is $23,500 with $7,500 in catch-up contributions for those aged 50 and up. Also in 2025, those 60 to 63 may contribute an additional $11,250 instead of $7,500 to a 457 plan, thanks to SECURE 2.0.

One big difference with 457 plans is that these limits are cumulative, meaning they include both employee and employer contributions rather than allowing for separate matching contributions the way a 401(k) does.

Another interesting point of distinction for older savers: If permitted, workers can also make special catch-up contributions if they are in the three-year window leading up to retirement.

They can contribute the lesser of the annual contribution limit, plus the amount of the limit not used in any prior years. The second calculation is only allowed if the employee is not making regular catch-up contributions.

Vesting in a 457 Retirement Plan

Vesting for a 457 plan is similar to vesting for a 401(k). You’re always 100% vested in any contributions you make to the plan. The plan can define the vesting schedule for employer contributions. For example, your job may base vesting on your years of service or your age.

As with a 401(k), any unvested amounts in a 457 retirement plan are forfeited if you separate from your employer for any reason. So if you’re planning to change jobs or retire early, you’d need to calculate how much of your retirement savings you’d be entitled to walk away with, based on the plan’s vesting schedule.

457 vs 401(k): Comparing the Pros

When comparing a 457 plan vs. 401(k), it’s important to look at how each one can benefit you when saving for retirement. The main advantages of using a 457 plan or a 401(k) to save include:

•   Both offer tax-deferred growth

•   Contributions reduce taxable income

•   Employers may match contributions, giving you free money for retirement

•   Both offer generous contribution limits, with room for catch-up contributions

•   Both may offer loans and/or hardship withdrawals

Specific 457 Plan Advantages

A 457 plan offers a few more advantages over a 401(k).

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. And 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).

Also, independent contractors can participate in an organization’s 457 plan.

And, as noted above, 457 plans have that special catch-up provision option, for those within three years of retirement.

457 vs 401(k): Comparing the Cons

Any time you’re trying to select a retirement plan, you also have to factor in the potential downsides. In terms of the disadvantages associated with a 457 retirement plan vs. 401(k) plans, they aren’t that different. Here are some of the main cons of both of these retirement plans:

•   Vesting of employer contributions can take several years, and plans vary

•   Employer matching contributions are optional, and not every plan offers them

•   Both plans are subject to RMD rules, unless they are Roth 401(k)s or Roth-designated 457 plans

•   Loans and hardship withdrawals are optional

•   Both can carry high plan fees and investment options may be limited

Perhaps the biggest drawback to 457 plans is that employer and employee contributions are combined when applying the annual IRS limit. A 401(k) plan doesn’t have that same requirement so you could make the full annual contribution and enjoy an employer match on top of it.

457 vs 401(k): The Differences

The most obvious difference between a 401(k) vs. 457 account is who they’re meant for. If you work for a state or local government agency or an eligible nonprofit, then your employer can offer a 457 plan for retirement savings. All other employers can offer a 401(k) instead.

Aside from that, 457 plans are not governed by ERISA since they’re not qualified plans. A 457 plan also varies from a 401(k) with regard to early withdrawal penalties and the special catch-up contributions allowed for employees who are nearing retirement. Additionally, a 457 plan may require employees to prove an unforeseeable emergency in order to take a hardship distribution.

A 457 plan and a 401(k) can offer a different range of investments as well. The investments offered are determined by the plan administrator.

457 vs 401(k): The Similarities

Both 457 and 401(k) plans are subject to the same annual contribution limits, though again, the way the limit is applied to employer and employee contributions is different. With traditional 401(k) and 457 plans, contributions reduce your taxable income and withdrawals are taxed at your ordinary income tax rate. When you reach age 73, unless you have the Roth version of these plans, you’ll need to take RMDs unless you’re still working.

Either plan may allow you to take a loan, which you’d repay through salary deferrals. Both have vesting schedules you’d need to follow before you could claim ownership of employer matching contributions. With either type of plan you may have access to professional financial advice, which is a plus if you need help making investment decisions.

457 vs 401(k): Which Is Better?

A 457 plan isn’t necessarily better than a 401(k) and vice versa. If you have access to either of these plans at work, both could help you to get closer to your retirement savings goals.

A 401(k) has an edge when it comes to regular contributions, since employer matches don’t count against your annual contribution limit. But if you have a 457 plan, you could benefit from the special catch-up contribution provision which you don’t get with a 401(k).

If you’re planning an early retirement, a 457 plan could be better since there’s no early withdrawal penalty if you take money out before age 59 ½. But if you want to be able to stash as much money as possible in your plan, including both your contributions and employer matching contributions, a 401(k) could be better suited to the task.

Test your understanding of what you just read.

Investing in Retirement With SoFi

If you’re lucky enough to work for an organization that offers both a 457 plan and a 401(k) plan, you could double up on your savings and contribute the maximum to both plans. Or, you may want to choose between them, in which case it helps to know the main points of distinction between these two, very similar plans.

Basically, a 401(k) has more stringent withdrawal rules compared with a 457, and a 457 has more flexible catch-up provisions. But a 457 can have effectively lower contribution limits, owing to the inclusion of any employer contributions in the overall plan limits.

The main benefit of both plans is the tax-advantaged opportunity to save for retirement. The money you contribute reduces your taxable income, and grows tax free (you only pay taxes when you take money out).

Another strategy that can help you manage your retirement savings: Consider rolling over an old 401(k) account so you can keep track of your money in one place. SoFi makes setting up a rollover IRA pretty straightforward, and there are no rollover fees or taxes.

Help grow your nest egg with a SoFi IRA.

FAQ

What similarities do 457 and 401(k) retirement plans have?

A 457 and a 401(k) plan are both tax-advantaged, with contributions that reduce your taxable income and grow tax-deferred. Both have the same annual contribution limit and regular catch-up contribution limit for savers who are 50 or older, plus an additional catch-up contribution in 2025 for those 60 to 63. Either plan may allow for loans or hardship distributions. Both may offer designated Roth accounts.

What differences do 457 and 401(k) retirement plans have?

A 457 plan includes employer matching contributions in the annual contribution limit, whereas a 401(k) plan does not. You can withdraw money early from a 457 plan with no penalty if you’ve separated from your employer. A 457 plan may be offered to employees of state and local governments or certain nonprofits while private employers can offer 401(k) plans to employees.

Is a 457 better than a 401(k) retirement plan?

A 457 plan may be better for retirement if you plan to retire early. You can make special catch-up contributions in the three years prior to retirement and you can withdraw money early with no penalty if you leave your employer. A 401(k) plan, meanwhile, could be better if you’re hoping to maximize regular contributions and employer matching contributions.

SoFi Invest®

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

SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

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25
2025
What Happens to a 401k When You Leave Your Job?

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

By | invest, Investing, Money & Life, Preparing for Retirement | Comments Off on What Happens to Your 401(k) When You Leave Your Job?

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 employees to save for retirement, as it allows them to save for retirement on a tax-advantaged basis, and also many employers offer matching contributions. Here are a few things to know about keeping track of your 401(k) accounts as you change jobs and move through your career

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 $5,000, your former employer may cash out the funds or roll them into another retirement account.

•   If you have more than $5,000 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.

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, up from $23,000 in 2024. Employees aged 50 and older can make catch-up contributions of $7,500 a year for a total of $31,000 in 2025, up from $30,500 in 2024. Also in 2025, those aged 60 to 63 may contribute an additional $11,250 instead of $7,500, thanks to SECURE 2.0, for an annual total of $34,750.

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 employees 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.

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?

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 $5,000, 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 $5,000 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.

If you have more than $5,000 in your account, your former employer can only force you to cash out or roll over into another account with your permission. 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) and it is 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.

Get a 1% IRA match on rollovers and contributions.

Double down on your retirement goals with a 1% match on every dollar you roll over and contribute to a SoFi IRA.1

1Terms and conditions apply. Roll over a minimum of $20K to receive the 1% match offer. Matches on contributions are made up to the annual limits.

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.

Recommended: How an Employer 401(k) Match Works

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.

Recommended: ​​What To Invest In Besides Your 401(k)

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.

If you have an old 401(k) you’d like to roll over to an online IRA, SoFi Invest® can help. With a SoFi Roth or Traditional IRA, investors can investment options, member services, and our robust suite of planning and investment tools. And SoFi makes the 401(k) rollover process seamless and straightforward — with no need to watch the mail for your 401(k) check. There are no rollover fees, and you can complete your 401(k) rollover quickly and easily.

Help grow 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 $5,000.

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 $5,000, the employer may roll over the account into an IRA or cash out the account. If the balance is more than $5,000, the employer may offer options such as leaving the funds in the account or rolling them into an IRA.

Photo credit: iStock/chengyuzheng

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