401(k) rollover

401(k) Rollover: A Guide After Leaving Your Employer

Have you ever wondered what to do with your 401(k) after parting ways with an employer? If you’ve considered rolling it over into another retirement account to consolidate your accounts, you’re not alone. But before you make a move, there are several crucial factors to consider. This guide will walk you through your options and steps involved in a 401(k) rollover, helping you make an informed decision.


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What is a 401(k) Rollover?

A 401(k) rollover is when you transfer funds from your 401(k) and move those funds into another retirement account, such as an IRA or a new employer’s 401(k). This process often helps keep the accounts tax-deferred while consolidating the accounts to manage your retirement accounts easily. 

Options for a 401k Rollover

If you are starting a new job and wondering what to do with an old 401(k) account at your previous employer. Here are the most common options:

  • Option 1: Roll into an IRA
  • Option 2: Roll the old 401k into a new one
  • Option 3: Keep it where it is
  • Option 4: Cash out your 401(k)

We will review each option below:

Option 1: Roll Into An IRA

For many, rolling over a 401(k) to a traditional IRA is their best option. Rolling over your IRA can give you the most control over your retirement investments. 

Rolling your old 401(k) into an IRA offers more investment options than most employer-sponsored 401(k) plans. An IRA, or Individual Retirement Account, is a type of retirement account that provides tax advantages for retirement savings. It allows you to invest in various assets, including stocks, bonds, and mutual funds. Additionally, you can control fees and investment strategies more, potentially leading to better long-term growth.

Option 2: Roll The Old 401(k) Into a New One

Rolling over an old 401(k) to a new employer’s 401(k) can simplify your investments and consolidate your retirement assets into one. This makes managing and monitoring your investments easier while taking advantage of higher contributions than an IRA and your new employer’s potential matching contributions

However, rolling money into your new employer’s plan has many rules and restrictions. Plus, your new 401(k) plan will likely have fewer investing options than rolling over into an IRA.

Before rolling an old 401(k) into your new employer’s 401(k), it is crucial to consult with the new 401(k) plan’s administrator or a financial advisor. This step ensures you are fully informed and aware of potential consequences, providing the necessary support and guidance in your financial decisions.

Option 3: Keep It Where It Is 

Or, you can leave the money in your old 401(k). This is often the most convenient choice, as it allows you to maintain your current investment strategy and avoid the hassle of moving your funds. However, leaving your investments in an old 401(k) usually means you will have fewer investment options and higher fees. Most people will likely have longer-term growth by rolling their 401(k) into an IRA. 

Be aware that there are a few situations that may require you to withdraw funds from your old 401(k). For example, if you have less than $5,000 in your 401(k), your former employer may ask you to close it.

Option 4: Cash Out Your 401(k)

Cashing out your 401(k) account can provide access to funds, which might be necessary if you need the money for urgent expenses. However, being cautious is important as this option can incur significant taxes and penalties depending on your age, withdrawal amount, and tax bracket. Therefore, it’s generally recommended only in financial emergencies or planned appropriately using a tax advisor.

However, if you are young, you’re inhibiting your investments from continuing to earn tax-free or tax-deferred growth on your investments over years or decades.

Indirect vs. Direct 401(k) Rollover

If you have decided to roll your 401(k) rollover to a new 401(k) or IRA, you have two options. To initiate the transfer, you can do either a direct or an indirect rollover. 

A direct rollover transfers funds from your 401(k) to a new retirement account. The transfer is between the two brokerage firms. Therefore, you never touch the money, which helps avoid taxes and penalties.

Indirect rollovers are much more complicated and unnecessary for most people. When you do an indirect rollover, your 401(k) funds are withdrawn and deposited into a new account. The complex part is that you have 60 days to complete the transfer into the new retirement account. If you don’t, you will get hit with taxes and potential penalties. In addition, the old plan administrator usually withholds 20% for taxes, which you must replace out-of-pocket to roll over the total amount.

Do You Have to Pay Taxes?

It depends on whether you are changing the account types with the transfer.

For example, if you go from a traditional 401(k) to a traditional IRA, it’s unlikely that you will owe taxes. However, you will owe taxes when you start withdrawing from the retirement account. 

Similar to the last example, if you transfer funds from a Roth 401(k) to a Roth IRA, you won’t owe taxes on that rollover. However, this doesn’t apply to employer contributions. Employer contributions are not considered as “Roth” assets (tax-free). This means that if you are rolling over employer contributions, they will be subject to taxes when you roll them over.

But, if you transfer from a traditional 401(k) to a Roth IRA, also known as a Roth conversion, you will owe taxes on the money you transfer. 

If you have concerns about whether your 401(k) rollover will result in tax liability, contact a tax advisor.

How To Do a 401(k) Rollover in Four Easy Steps

Initiating a 401(k) rollover doesn’t have to be complicated. Whether you’re starting a new job or looking for better investment options, these four simple steps can help you process your rollover smoothly. You can keep your retirement savings on track without tax issues or penalties by choosing the right account, deciding where to move your funds, initiating the rollover, and completing the process within the required timeframe.

Step 1: Choose Your New Account

Before you rollover your money into another account, decide which kind of account makes sense for your situation and needs. Here are some questions to consider:

  • Do you want more control over your investments or someone to do it for you? 
  • Does your new or former 401(k) offer low-cost investment options?
  • Have you created a plan for when you start withdrawing from your retirement accounts and how you withdraw?

 Step 2: Decide Where You Want the 401(k) To Go

If you’re making a 401(k) rollover from your old employer to your new one, this will be easier for you. However, if you are rolling it over to an IRA, decide whether you will transfer the funds to an existing or new account. 

If you are wondering where to open an IRA account, it’s essential to compare brokerage reviews by examining their minimum balance requirements, investment offerings, customer service options, and ratings.

Step 3: Initiate the Rollover

Reach out to your old 401(k) plan administrator and inform them that you will be rolling over your funds to another account. To ensure that the process goes smoothly, request the necessary paperwork and clarify whether they can execute a direct rollover to your new account. Complete the necessary paperwork to begin the rollover process.

Step 4: Complete Rollover Within 60 Days

If you’ve decided to do an indirect rollover, ensure that your deposit is transferred into your new account within 60 days of the distribution of your former 401(k). Otherwise, it will be a taxable event.

It is important to ensure that you have received receipts for every part of the process. For example, note whether the administrator will send a paper check to you or the institution where the funds will be rolled over. 

If you receive a check in the mail, you will be responsible for completing the rollover. 

Final Thoughts

A 401(k) rollover can be a strategic move to consolidate your retirement savings and manage your investments more effectively. Whether you roll your 401(k) into an IRA, transfer it to a new employer’s plan, keep it with your previous employer, or cash it out, each option has distinct benefits and potential drawbacks.

By carefully considering your financial goals, investment preferences, and the specific rules associated with each option, you can make an informed decision that supports your long-term retirement strategy. Always consult with a financial advisor or tax professional to ensure that your rollover is executed smoothly and aligns with your overall retirement plan. Taking the proper steps now can significantly impact your future financial security and peace of mind.

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Financial Planner, Tax Professional at Spark Financials | Website

Danielle Miura, CFP®, MSFP, EA, is the founder of Spark Financials, a life and financial planning firm specialized in helping those planning for retirement to organize, simplify, and empower them through every life turn. As a CERTIFIED FINANCIAL PLANNER™ professional, I help my clients protect their assets, manage their wealth, and dream about their future.

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