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Rolling Over a 401K or IRA – What you Must Do

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Retirement plan rollovers happen all the time. Whether you change jobs and need to rollover a 401K or you want to roll over an IRA to another broker, investors do this multiple times in their lives. 

It’s not as hard as it sounds, but make sure you know what you’re doing or you could put yourself in an unfriendly tax situation. Are you ready to learn what you need to do?

Check out the tips below. 

Reasons to Rollover your IRA or 401K

The #1 reason people rollover retirement funds is changing jobs.

When you have an employer-sponsored 401K, but you leave that employer, you should take the 401K with you. On the rare occasion, you may leave it, but that’s not always feasible or financially responsible. 

When you leave an employer, the best-case scenario is rolling the 401K over into your new employer’s 401K. If your new employer doesn’t have one or you’re not eligible right away, roll it over into an IRA. 

Just avoid cashing it out. If you do, and you’re younger than 59 ½, you’ll pay fees, penalties, and taxes on the money. 

Key Factors to Consider

Before you rollover, your retirement accounts, get familiar with these regulations.

Choose a Direct or Indirect Rollover

I suggest that you look for direct rollovers whenever possible.

In a direct rollover, the original plan trustee transfers your retirement plan funds directly into the new plan. The money never touches your hands.

In an indirect rollover, the trustee issues the money to you and you roll it into the new retirement plan. You’ll pay a 10% penalty fee on IRAs and a 20% penalty fee on 401Ks for the indirect rollover.

Potential Fees

Besides the 401K or IRA fees mentioned above, there are a few other fees you may pay if you aren’t careful.

If you receive retirement funds, you have 60 days to reinvest them in another tax-advantaged account. If you don’t, the IRS considers it a cash withdrawal and you’ll pay taxes on the funds, as they increase your income.

Besides the taxes, the IRS charges a 10% early withdrawal fee, aka additional tax. There aren’t any exceptions. 

What are your Rollover Options?

If you’re leaving your job or want to change your IRA, you must consider what to do with your retirement account. There are a few options to consider:

Rollover a 401K to an IRA

You’ll have the most freedom if you rollover to an IRA and it has many benefits:

  • IRAs have more investment options versus 401Ks, which only allow investments in the choices the sponsor includes
  • You control the IRA, which means you can buy/sell assets as often as you want
  • You choose the plan trustee and change him/her as often as you wish
  • You can choose investments that keep your fees low
  • You may be able to withdraw funds easier

Rollover a 401K to Another 401K

If you’re immediately eligible for a 401K at your new employer, you may make a direct rollover into the new 401K. Make sure you know the investment options, fees, and rules of the new 401K before making this move.

IRA to 401K Rollover

If you started an IRA account before you had a 401K account, you can roll the funds over into your 401K.

First, your new employer must allow it. Check with HR and/or the plan trustee to find out the rules. You may only roll over the tax-deductible funds from the IRA plan. The process can get complicated; make sure you work closely with the plan trustee so you know the requirements and fees involved.

IRA to IRA

This is the easiest transfer. There are few restrictions since you’re in charge of the funds and where you invest them. Make sure you know the investments and fees before jumping ship to make sure it’s the right choice.

The IRS Rule for IRAs

One rule applies to all IRA rollovers. If you move funds from one IRA to another tax free, you can’t roll over more funds from the same IRA or rollover those same funds for 12 months. 

The Right Way to do a Retirement Account Rollover

Before you rollover any funds, whether a 401K to an IRA, 401K to a 401K, or IRA to IRA, you’ll use the same steps:

1. Find your new account.

If you’re setting up a new IRA, choose it and get it set up first. If you’re rolling over into a new 401K, get everything situated with your new employer ensuring the account is ready to receive funds before you do anything else. If you take the money out first, you may face unnecessary tax consequences.

2. Find out what your plan administrator needs.

Remember, you aren’t rolling the funds over; your plan administrator does it. Give him/her plenty of notice of the rollover. Make sure you use the term ‘direct’ rollover so they don’t distribute the funds to you and trigger a tax consequence.

Make sure the trustee writes the check to the new plan directly and not you. A check made out to you triggers taxes and the 10% early withdrawal penalty, plus any withdrawal fees the plan charges for personal withdrawals. 

3. Fund your new account.

If the plan administrator gives you the funds, make sure you get them in your new account within 60 days. Waiting even until 61 days, triggers those pesky taxes and 10% penalty, which eats away at your retirement funds.

4. Report the switch on your taxes.

Your old plan administrator will issue you tax Form 1099-R. This just signifies the rollover. If you did it within the IRS regulations, you shouldn’t owe any taxes. You’re just informing the IRS of the switch. If you held onto the funds or had them directed to you, rather than directly to the new retirement account, though, you’ll have a tax liability that you must report and pay. 

Want to Check up on your 401K?

Are you worried that your 401K may not be up to par? Blooom, a robo-advisor specializes in 401Ks. Unlike most 401Ks that only operate in IRAs and taxable accounts, Blooom focuses on 401Ks.

Blooom will look over your 401K plan and make recommendations, just like other robo-advisors do for your IRA and taxable accounts. Bloom may suggest changing investments to avoid fees and/or enhance the account’s performance. 

Blooom also helps you decide when rollovers make sense and if so, what type of account you should consider, whether your company’s new 401K or a new IRA. 

What’s the Best Option?

Each investor has his/her own preferences, but I highly suggest not leaving your 401K with your old employer.

Not only will you lose touch with it (out of sight, out of mind), but you can’t make further contributions. So you sit at the mercy of the old 401K plan’s investments, but can’t increase your account. It just makes for more confusion, especially if you start another retirement account with your new employer or open an IRA.

Choosing between your new company’s 401K or your own IRA is the real decision.

If you know your new company’s 401K has viable investment options and low fees, go for it. This is especially important if your new employer matches your contributions. Don’t give up free money!

If your employer doesn’t match, or the fees and investment options don’t resonate with you – do your own thing. Open your own IRA where you are in full control of the investment choices, allocations, and frequent changes.

No matter what you choose, make sure you follow the IRS guidelines to avoid triggering a tax liability.

Check out the aforementioned Blooom, a robo-advisor which specializes in 401Ks.

If you have any questions, please don’t hesitate and comment below.

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