How To Rollover A 401(k) To An IRA Account

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When the time comes to make a career change and you need to decide what to do with your 401(k) nest-egg, consider rolling over your 401(k) account to a traditional IRA or even a Roth IRA. Once you leave your job, you will no longer be able to contribute to your 401(k) plan, so for most people it will make sense to roll it over. So how do you go about rolling over your 401(k) to an IRA and what are your options?

To Rollover Your 401(k) Or To Not Rollover Your 401(k)?

The best option when leaving one job and starting another is to rollover your 401(k) to an IRA, which generally has lower fees and more investment options than transferring to a new employer retirement plan. Leaving your 401(k) with your old employer is generally not a good idea either because ex-employees often pay higher fees and lose access to Human Resources.

The two primary choices you have when leaving a job are to rollover your 401(k) account or to leave it as is and do nothing. A third choice is to cash out but the IRS imposes a 10% early withdrawal penalty for so doing, in addition to ordinary income taxes on the amount encashed. Unless absolutely necessary, cashing out should be avoided not only to sidestep the taxes and penalties, but also because the opportunity cost of growing your nest-egg tax-free until retirement is so large.

Not every employer will allow employee 401(k) accounts to remain under their retirement plan umbrellas when an employee leaves. Even if they do, the employee will likely be inconvenienced if they choose to keep their 401(k) account in the employer-sponsored plan. Your access to the Human Resources department is typically reduced and fees charged to ex-employees are often higher.

Much better to rollover your 401(k) to an IRA account that you control or into your new employer’s retirement plan. The best option is generally to rollover to an IRA because investment options are often restricted in an employer-sponsored plan, and you can shop around for lower fees compared to those charged in an employer-sponsored plan.

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Rollover To Traditional IRA Or Roth IRA?

Rolling over a 401(k) to a traditional IRA is generally preferable than rolling over to a Roth IRA because taxes on the rolled over amount would need to be paid when converting to a Roth IRA but a taxable event is not triggered when rolling over to a traditional IRA.

Once you have decided to rollover your 401(k) to an IRA account, the next question is which type of IRA account is best: a traditional IRA or a Roth IRA?

In a Roth IRA, after-tax dollars are initially contributed and tax-free distributions are withdrawn upon retirement. Over the age of 59.5 years, Roth IRA account holders can begin withdrawing funds, though no minimum withdrawal requirements are mandated as they are with traditional IRA or 401(k) retirement accounts.

While a Roth IRA is attractive because of its tax advantages and other benefits, certain eligibility rules and limits relating to income apply. For the most part, it doesn’t make sense to convert from a 401(k) to a Roth IRA, though technically it is feasible, because you will be obligated to pay taxes on the amount rolled over. It might make sense if you had a Roth 401(k) account to convert to a Roth IRA because the Roth 401(k) is treated the same as a Roth IRA from a tax perspective.

To avoid a taxable event when rolling over a 401(k), it is generally best to rollover to a traditional IRA. In a traditional IRA, contributions are tax deductible in the year they are made and withdrawals are taxed upon retirement. Traditional IRA accounts can be opened easily with online brokers and robo-advisor firms.

Request A Direct Rollover Of Your 401(k)

When transferring funds, request a direct rollover of your 401(k) account so that funds are transferred directly to your new account provider. An indirect rollover takes place when funds are first sent to you and then sent onwards by you to your new account provider. An indirect rollover would require you to come up with 20% of the account balance yourself and trigger a 60 day timeline to transfer funds to your account provider, or risk penalty charges.

When initiating a rollover of your 401(k) account, the most important thing to do is to request a direct rollover. Ask your 401(k) plan administrator to send your full account balance to your new account provider. A direct rollover means the funds never get sent directly to you; if they were sent to you, it would be treated as an indirect rollover, trigger a 60 day timeline to transfer funds to your new account, and require you to contribute 20% of your account balance out of pocket, or incur penalties.

When an indirect rollover is selected, your employer will send you 80% of your 401(k) balance and withhold 20% for the IRS. It is your obligation to contribute to your new account the 20% withheld. Failure to come up with the funds within 60 days triggers an early distribution penalty of 10% plus taxes.

Let’s walk through an example of a 401(k) account with a balance of $50,000. If you choose an indirect rollover, your employer will withhold $10,000 (20% of the $50,000 balance) and send you $40,000. But you are required to deposit the full $50,000 within 60 days to avoid early distribution penalties of 10%. So what can you do?

You will need to dip into savings to come up with the $10,000 deficit or pay penalties of 10% on that amount in addition to taxes owed for withdrawing funds early because the $10,000 will be treated by the IRS as taxable income. To save yourself the headache and stress of meeting the 60 day timeline, coming up with the funds, and calculating the 20% figure, simply choose a direct rollover.

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Choose An IRA Account: Broker or RoboAdvisor?

Proactive investors should consider opening an IRA account at an online broker while hands-off investors may be better served at a robo-advisor.


Retirement planning often requires some handholding, and both Charles Schwab provide excellent support not just online but through their network of local branches nationwide.

Schwab is a full-service brokerage firm featuring industry-leading research, competitive commissions, an easy to navigate platform, a world class options trading platform and fast customer service.

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For investors looking to be less proactive in managing their retirement nest-eggs, robo-advisors are a good solution. They rely on technology-powered algorithms to automate investment allocations and rebalance portfolios. And many robo-advisors, such as SoFi, Personal Capital, and Vanguard, provide live financial advisors too for a more personal touch.

Among the best robo-advisors for IRA accounts are Fidelity Go and Betterment. Fidelity Investments is the largest US retirement provider, and Fidelity Go is its robo-advisor arm that has highly competitive management fees of just 0.35%, including investment expenses – most traditional financial advisors and robo-advisors pass on investment expenses to clients in addition to management/advisory fees, but Fidelity Go bundles them together for additional fee transparency.

Along with Schwab Intelligent Portfolios, Betterment has amassed one of the largest books of business in the robo-advisory space, and with good reason. Betterment has no account balance minimum, low management fees starting at 0.25%, and for larger account balances will connect clients to human financial advisors.

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Regardless of which IRA account provider you select, the range of investment options will be broader than the generally restrictive lists available through most workplace retirement plans. If you choose to rollover your IRA into a brokerage account, a range of exchange-traded funds that have lower expense ratios than mutual funds will be available to keep costs low while staying diversified.

For account holders choosing a robo-advisor, investment selections will be automatically made on your behalf and most robo-advisors select low-cost exchange-traded funds that are allocated according to Nobel-prize winning research known as Modern Portfolio Theory.




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