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- You can roll over a 401(k) to an IRA or another 401(k) plan to keep your tax-deferred savings growing.
- Be wary of indirect rollovers, as there can be tax consequences for not following IRS regulations.
- Circumstances such as outstanding loans or lower fees with your old plan may make a rollover unwise.
When leaving your old place of employment, you must decide what to do with your old 401(k) plan. Technically, you can leave your retirement savings in your old 401(k) plan, but you'll be liable for the high management and investment fees. For that reason, you'll want to consider a 401(k) rollover.
You can continue growing your retirement savings in a tax-advantaged retirement plan while avoiding tax penalties with the best rollover IRA options.
A 401(k) plan is regarded as one of the best retirement plans for growing your nest egg, but rolling over those assets into a new or existing IRA can be more beneficial. Here are the best ways to initiate a 401(k) rollover.
Understanding 401(k) rollovers
What is a 401(k) rollover?
A 401(k) rollover is when you transfer funds from one tax-advantaged retirement account — typically a 401(k) from a previous employer — into a new retirement savings account. A 401(k) rollover is common when someone switches jobs because retirement plans differ from employer to employer.
Following Internal Revenue Service guidelines on rollovers ensures the retirement account stays tax-advantaged and doesn't incur fees, taxes, or penalties. Rollovers are subject to IRS rules because a 401(k) is a tax-advantaged plan. Some of the rules you need to be aware of include:
- Only one rollover is allowed in 12 months.
- If you receive a distribution of funds from your 401(k), you have 60 days to roll over the funds into a new retirement plan before it becomes taxable.
- Conversion to a Roth account means you'll need to pay taxes on the distributed amount as if it were income.
- Your new retirement plan does not have to accept rollover funds from your previous 401(k).
Rollover options
When it comes to rolling over your 401(k), you have two options:
- Roll over to an IRA, either traditional or Roth. Rolling over to an IRA can expand your investment options and may offer a better fee and management structure.
- Roll over to another 401(k), usually offered by your new employer. Consolidating your 401(k)s into one can help you streamline the management of your retirement accounts.
Rolling over a 401(k) into an IRA can increase your options for investing your retirement dollars.
"This type of rollover may make sense if the investment options within your 401(k) are lacking or too confining for how you'd like to invest your retirement dollars," says Kenneth Chavis, a wealth advisor with Lourd Murray. "A rollover to a traditional IRA will allow you free range of investment options, including the entire universe of publicly-traded investment vehicles, as opposed to the investment menu within your 401(k) plan."
Types of rollovers: Direct vs. indirect
Be careful how funds are moved, as this can make rollovers more of a hassle than they need to be. There are two ways to roll over funds:
- Direct: With a direct rollover — also known as a trustee-to-trustee transfer — funds are transferred directly from one retirement plan to another.
- Indirect: With an indirect rollover, funds are sent to you, and you must deposit them into another retirement plan yourself. You must do this within 60 days, or the money is treated as a regular distribution for tax purposes.
Benefits of rolling over your 401(k)
- Greater investment choices: Rolling over to a new 401(k) or IRA may offer better investment options. IRAs offer you greater control over how your funds are invested.
- Potential for lower fees and costs: IRAs usually charge lower fees than 401(k) plans. Also, since you are no longer an employee, you may avoid additional fees charged by the original 401(k) plan provider.
- Simplifying your retirement accounts: Having your retirement savings all in one place is easier to manage and prevents you from paying additional management fees. Moreover, you'll continue receiving tax advantages on your contributions as traditional IRAs share the same tax rules as traditional 401(k). The same logic applies if you have a Roth IRA.
How to roll over your 401(k) to an IRA
Step-by-step guide to rolling over your 401(k)
1. Choosing the right IRA account
You can rollover your 401(k) assets into a new traditional or Roth IRA. The tax advantages for 401(k)s and IRAs are the same. Open an IRA with the same benefit as your original retirement plan to extend your original tax advantage. For example, if you have a traditional 401(k), you should open a traditional IRA.
When deciding which of the best IRA accounts are best for your rollover, consider your preferred investment style, risk tolerance, investment options, goals, and fees. A few IRA providers, like Webull and Robinhood, offer an IRA match benefit on contributions and transfers.
2. Contacting your 401(k) plan administrator
To initiate the rollover, contact your 401(k) plan administrator and request a direct rollover. If you don't know your 401(k) plan administrator, contact your old employer's HR department for the contact information. You can also use platforms like Capitalize or Beagle, which find and manage 401(k) rollovers for you.
Some 401(k) plan administrators allow for direct rollovers. In that case, you'll have to do an indirect rollover.
3. Initiating the rollover process
On average, completing a rollover takes two to four weeks. Your specific plan provider can provide you with a specific timeframe. You shouldn't be charged taxes or penalties during this process.
Remember that non-vested funds and shares of company stock are not eligible for rollovers. Unfortunately, you'll have to say goodbye to those assets.
4. Investing your rollover funds
Once the rollover funds are in your account, you can start investing. With a new 401(k), you'll be limited to the investment options available through your employer. IRAs offer more investment opportunities, including low-cost ETFs, options contracts, precious metals, and other alternative investment options.
Make sure you file the appropriate taxes on your rollover. You shouldn't owe taxes, but you'll still receive a 1099-R and must report the rollover to the IRS.
Tax implications of a 401(k) rollover
Roth IRA conversions and tax considerations
Converting a traditional 401(k) to a Roth IRA has tax consequences. You would need to pay income taxes on the amount that you roll over from a 401(k) to a Roth IRA. This isn't a penalty, but converting untaxed retirement savings in a 401(k) to taxed retirement savings in a Roth account is necessary.
The rollover process is similar to the regular 401(k) to IRA process. After contacting your 401(k) plan administrator and requesting a transfer, you'll fill out the 1099-R form from your plan administrator, showing you how much your retirement fund is taxable.
Handling indirect rollovers and tax withholdings
Indirect rollovers are subject to the 60-day rollover rule, which requires the rollover to be complete within 60 days to avoid the transfer being classified as a distribution. If you take over 60 days, you may be required to pay income tax on the distribution amount. A 10% early withdrawal penalty fee may also apply if you are under 59½.
The IRS can waive the 60-day rule in certain situations classified as "beyond your control."
Comparing 401(k) rollovers to other options
401(k) rollover vs. leaving money in your old 401(k)
There are a few scenarios where leaving your 401(k) where it is might prove more beneficial than rolling it over.
"One instance where it might not make sense to roll over is if there is an outstanding loan balance or there is a plan to take a loan in the future," explains Or Pikary, a wealth advisor for Mariner Wealth Advisors. "If in such a scenario, it is better to wait to move your 401(k) until the loan balance is paid in full."
Also, you may want to consider leaving your 401(k) where it is if your existing plan offers lower fees than potential rollover options or if you have access to favorable investment opportunities that you would otherwise lose. Regardless, most people will find that a rollover is more beneficial.
401(k) rollover vs. rolling over to a new employer's 401(k)
You may get access to a new 401(k) plan through new employment. In that case, rolling over a 401(k) from a previous employer to a new 401(k) makes sense, especially if your new plan offers lower administrative fees and better investment options.
Although 401(k)s aren't as flexible as IRAs, investing in your workplace retirement account is generally more convenient to manage. Plus, you get the benefit of employer-sponsored matches and automatic payroll deductions.
The process for rolling over a 401(k) into another 401(k) looks something like this:
- Enroll in the new 401(k).
- Request funds from your previous 401(k) plan administrator.
- If you receive the funds directly, deposit them into the new 401(k).
- Choose investment options.
- Report the rolled-over amount to the IRS found on form 1099-R.
401(k) rollover vs. cashing out
One alternative to rolling over a 401(k) is to cash it out. This is where you do not redeposit funds to a tax-advantaged retirement account and keep the money instead. There will likely be taxes and penalties involved in doing so.
When cashing out a 401(k), the funds distributed are taxed as part of your income. You'll also incur a 10% early withdrawal penalty and taxation if you're not 59½ or older. The IRS does offer certain hardship exceptions for withdrawing your retirement savings early.
Cashing out your 401(K0 is not recommended as you could lose substantial money.
"As an example, if someone who is 30 years old cashed out a $50,000 401(k) and was in the 24% Federal income tax bracket and 5% state income tax bracket, they would owe $12,000 in Federal income tax, $5,000 early withdrawal penalty and $2,500 in state income tax for a total of $19,500 in taxes and penalties," Chavis says.
FAQs
A direct 401k rollover involves transferring funds directly from a 401k plan from a previous employer to a new or existing qualified retirement plan. This transfer method prevents you from paying taxes or penalties. You can request a 401(k) rollover with your 401(k) plan provider.
Rolling over a 401(k) to an IRA can offer benefits such as a wider range of investment options, the potential for lower fees, and the convenience of consolidating retirement accounts, which makes it easier to manage retirement savings.
The tax implications for a 401(k) rollover vary depending on method and execution. Direct rollovers to a traditional IRA are typically tax-deferred, meaning you won't owe taxes until you withdraw the funds. Rolling over to a Roth IRA may trigger taxes since Roth contributions are made with after-tax dollars.
In a direct rollover, funds are transferred directly between accounts without you possessing the money. In an indirect rollover, you receive the funds and must deposit them into a new retirement account within 60 days to avoid taxes and penalties.
Some employers allow in-service rollovers, which let you roll over a portion of your 401k funds to an IRA while still employed. Check with your plan administrator to see if this option is available.
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