At some point in your working career—perhaps because you’ve made the decision to retire from the company or found another job—you may be faced with the prospect of having to roll over your 401(k) retirement plan. Regardless of the reason, there are certain rules and guidelines you need to be aware of in order to avoid penalties and fees. Here are our answers to a few commonly asked questions.
Q: Do I have to roll over my current 401(k) into another 401(k) or IRA?
A: Not necessarily; it depends on plan rules. If you are happy with your current plan, you may be able to keep it with your former employer. This is especially a good option if you are happy with the rate of return, investment choices, and fee structure. However, you will no longer be able to contribute to it and will be stuck with the investment options they offer you.
Q: Is there a fee for rolling over my 401(k)?
A: Generally, there is not a fee for rolling over a 401(k). However, you should carefully consider what are called “expense ratios” before getting into a new 401(k) plan. These are the fees the plan charges for managing your investments, and they can vary widely from plan to plan.
Q: Can I leave a portion of my 401(k) in my former employer’s plan and roll the remainder into a new plan?
A: It depends on the plan rules at your former place of employment and the new plan’s rules. Some plans allow partial withdrawals, but others may require you to either leave funds in the plan, take a full cash out disbursement, or perform a full rollover into another retirement account. Your best bet is to check the plan rules in place with your former employer before making a decision about what to do with your money.
Q: What is the most cost-effective type of 401(k) rollover?
A: By far, a direct rollover whereby funds are distributed from one plan to another plan. This type of rollover avoids the possibility of withholding penalties and income tax liability. With an indirect rollover, funds are distributed to you rather than the new plan trustee and are subject to a 10-20 percent withholding penalty, depending on the type of retirement plan. In addition, you only have 60 days to fund another retirement account before it’s considered a cash withdrawal and subject to income tax penalties. If the distribution is considered a cash withdrawal and you are under age 59 ½, you’ll be subject to income taxes and an additional 10 percent penalty.
Q: Is there a limit to how long I can leave rolled over 401(k) assets in my current plan?
A: Yes, you are required to take what is called “required minimum distributions” from your account no later than April 1 of the year after you turn 70½. Some plans may require that you take money out sooner, so it’s best to check with your plan administrator on specific rules.
Q: Should I establish my new account before or after I consider rolling over my 401(k)?
A: It’s typically a good idea to open up your new IRA before you initiate the rollover. If you wait to open the new account after you’ve made the decision to disburse funds from the old account, you run the risk of incurring unnecessary tax consequences.
Q: Should I report my 401(k) rollover to the IRS when I file taxes?
A: The answer is, unequivocally, yes. Make sure your old 401(k) plan administrator mails you an IRS Form 1099-R in time for you to file your income taxes. This document will indicate to the IRS the amount of the rollover and whether it is a taxable or non-taxable distribution.
As is the case with any financial investment, it’s usually in your best interest to know the rules and regulations of the plan holding your money. If you are in doubt, seek the help of a knowledgeable financial advisor to avoid unnecessary taxes and penalties.