How to Roll Over a 401(k)

Rolling over a 401(k) into a new retirement plan can make managing your retirement assets easier and, in some cases, can provide significant financial benefits to investors when they change jobs or experience another life-altering event.

Whether you want to merge an old 401(k) with a new employer’s plan, transfer your assets into a new form or retirement plan like a Roth IRA, or want to cash out your old account before retirement, there are ways to navigate this process that will benefit you and your retirement goals.

Key Takeaways

• A 401(k) is a type of retirement account typically offered by employers that allows pre-tax and sometimes post-tax income to be invested from each paycheck.
• The income tax owed on pre-tax funds contributed to a 401(k) is deferred until they’re withdrawn from the account, allowing them to appreciate more rapidly than traditional investments.
• When changing employers or simply trying to consolidate your retirement accounts, it’s possible to “roll over” your 401(k) contributions to a new type of retirement plan or simply withdraw them as cash.

What is a 401(k)

A 401(k) is a popular type of retirement savings account that offers numerous benefits to investors. When an employee enrolls in a 401(k) program, it allows them to invest pre-tax, sometimes post-tax income into the account directly from their paycheck, deferring payment of income taxes on those funds until they are withdrawn once the employee nears retirement age.

Depending on the company, these contributions might also be matched up to a certain level by the employer, further incentivizing their use. As long as the funds aren’t withdrawn before the accountholder reaches age 59½, they will continue to appreciate and yield significant dividends at retirement.

How Do They Work?

A 401(k) is a highly advantageous investment tool because it allows the investor to delay paying taxes on a portion of their income. While income taxes typically must be paid on these funds once they’re withdrawn during retirement, the portion that would be paid in taxes can appreciate significantly throughout the employee’s career.

While 401(k)s are intended to be used as retirement accounts, it is possible to access the funds before retirement in the case of an emergency or other life event. Early withdrawals for these types of accounts are subject to a 10 percent penalty in addition to the standard income tax paid on a 401(k) withdrawal.

How to find an old 401(k)

When you switch jobs, your new employer may offer a 401(k) plan as part of your compensation package. In cases where an employee switches roles several times over the course of their career, it can become difficult to keep track of all of their retirement accounts.

In cases where you are unable to find a retirement account from a past employer, the federal government offers a tool to locate and recover these funds. While it is possible to track down forgotten retirement plans from past employers, it’s often easier to roll over your 401(k) to a new plan whenever you switch jobs. 

Where to Roll Over 401(k)

Rolling over a 401(k) is the process of moving your retirement funds from an existing 401(k) plan into a new account. This is typically done when switching employers, although you may have other circumstances arise that necessitate a rollover.

Depending on what you do with the funds from your 401(k) when rolling it over, you may be liable for certain tax obligations or penalties. If you are unsure of when to roll over your retirement plan or what sort of change is best for you, consult a financial advisor to determine the best strategy for your unique situation.

401(k) Rollover to IRA

An IRA, or individual retirement account, is a popular choice when deciding what type of account to roll your 401(k) over into. These plans are another form of retirement account in which pre-tax funds can be contributed and allowed to mature over time. 

One of the big benefits of rolling your 401(k) into an IRA is simplicity—multiple accounts linked to former and current employers can be consolidated into a single IRA if an investor so wishes.

IRAs are regulated differently from 401(k)s, and so these differences might be a disadvantage to certain investors.

IRAs also do not allow investors to borrow money against the accounts in the same way a 401(k) holder can, which may be a deal breaker for certain investors. 

Keep in Former Employer’s Plan

While this might be the most straightforward solution in the short term, leaving 401(k) funds in the original employer’s plan can introduce some complications down the line for certain investors.

The biggest appeal of leaving funds in the original account is simplicity—the assets will continue to appreciate over time without doing anything to them. This is also often a very flexible option for investors, as the funds can be rolled over into a new plan in the future if that proves to be advantageous.

On the downside, you can no longer contribute funds to this account once you leave the employer that manages the 401(k). This means any future contributions will have to be made to other accounts, which can become complicated over time as you move from job to job. You may also have additional tax considerations in instances where your employer includes stock in the contributions to their retirement plans.

Consolidate to the New Employer’s Plan

In some cases, it may be possible to roll over your existing 401(k) into a new company’s plan. The benefits and disadvantages of this approach are largely dependent on the terms of your current plan and the new employer’s offerings.

Before consolidating an old 401(k) into a new plan, make sure the new plan offers as good or better investment choices and administrative fees compared to the plan containing your existing assets.

Cash Out

Generally speaking, a cash distribution from their 401(k) should be a last resort for investors. While the funds contained in a 401(k) can be substantial, withdrawing these funds before age 59 ½ means paying penalties of 10 percent or more in addition to the income tax requirements for the funds. This should only be done in cases where the investor needs the cash immediately to meet an extraordinary need.

What are the rules for rolling over a 401k?

Rolling over a 401(k) can be relatively simple, as long as you follow all the applicable rules for such a conversion.

Typically, a 401(k) can only be rolled over following something known as a distributable event. This includes things like termination of employment, personal hardships, or the employee reaching the age of 59½. 

Assuming your 401(k) can be rolled over, you will also need to explore the tax implications of a rollover. Switching funds from one 401(k) to another typically does not require additional tax payments, but converting a 401(k) to a Roth IRA may require income taxes to be paid on the funds being transferred. The same goes for cash distributions from a 401(k).

Bottom Line

A 401(k) is one of the most powerful tools investors have at their disposal to prepare for retirement, and if they are managed properly, they can be a huge benefit to retirees. Knowing when, why, and how you should combine or restructure your existing retirement plans can ensure your money continues to work for you, regardless of how often you switch jobs and start new retirement accounts.

Horizon Wealth Management can support your 401k consolidation needs, along with many other options for financial planning. Schedule a consultation to get started with your financial journey.

401(k) Rollover FAQ

Why choose a 401(k) over an IRA or other retirement plan?

Many people choose a 401(k) as their primary retirement account because their employers offer some level of matching funds for their contributions. A 401(k) also typically offers a higher maximum contribution level than other accounts like IRAs.

That being said, many investors choose to employ both investment strategies as they plan for retirement. One popular strategy is to max out your employer’s matching contribution and then invest any remaining funds into an IRA, creating a stronger, more diverse retirement portfolio.

What can I roll my 401(k) into without penalty?

Generally speaking, you can transfer 401(k) funds to other 401(k) plans without paying a penalty. The same is true for transferring funds into an IRA, although certain types of IRAs will require the owner to pay income taxes on any pre-tax income being transferred from the 401(k) to the IRA.

A 10 percent penalty is assessed on funds withdrawn as cash from a 401(k) before the age of 59½. 

How much does it cost to roll over a 401(k)?

In some cases, it may not cost anything to roll over a 401(k). Certain providers will charge an administrative fee for closing out an old 401(k) or opening a new one, though, so it’s best to check with your current and prospective plan administrators to determine what fees you’re responsible for, if any.