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A rollover is when you transfer funds from your employer sponsored retirement account (401k, 403b, 457b or TSP) into an IRA (Individual Retirement Account). Most rollovers happen when you stop working with your employer. If you rollover your old 401 k you retain full control over the account. When funds remain in a 401 k they are under the control of your previous employer. An IRA is independent, therefore, under your direct control.
Remember, all investing involves risk. Remember what your plans and relevant risks are to avoid losing all your retirement savings.
In this guide we will teach you what rollovers are, when to consider performing a rollover, and how to rollover your account without causing tax mistakes. We will also explain what to do after you perform a rollover, and how to make the process as smooth as possible.
Rollovers can come from any retirement plan, including a 401 k plan, 457b, 403b and an IRA. What all of these accounts have in common is that they are all a form of employer sponsored plan. Any contributions to qualified plans, including a traditional account IRA give you the benefit of immediate tax deduction. Keep in mind that all retirement plans involve taking required minimum distributions.
You might perform a rollover for range of reasons: you retire from your employer, you get a new job, you’re unhappy with the current custodian of your IRA, or you want to switch from a 401 k to an IRA for more flexibility. The funds will be rolled over into a new employer's plan or Traditional IRA. You may also roll into a Roth IRA, but we will discuss this further below.
The rollover comes into play when take a full, or partial withdrawal of your retirement savings from the employer's retirement plan and move it to another account.
There are a few ways to rollover your retirement savings, but the bottom line is rollovers are a way to move your money into a different account.
Regardless of the reason, many people perform rollovers and we will clarify what to look out for and how to successfully transfer funds.
When done properly, your retirement savings will get transferred without any tax consequences. If you perform your rollover incorrectly, you could be left with a tax liability that you didn’t expect, or save for.
It’s crucial that you understand the different types of rollovers to prevent making a costly mistake.
Always consult with your financial advisor, and/or accountant to see what makes sense for you. It will always be better to get help performing your rollover and take longer, than rush the asset transfer and incur penalties.
A direct rollover is when you request your former employer's plan custodian (your employer or their third-party administrator) to move the funds directly to another account.
The main example is you retire, quit your job, or decide to fund an IRA (Individual Retirement Account). The first step in that process is to move your old 401 k into an IRA or new employer's retirement plan.
This method avoids any taxation because the funds are directly issued to your new account or plan, for your benefit, and you don’t ever receive the funds as a payment to yourself as an individual person. This is the safest way to perform a rollover. It also ensures that you do not pay taxes for transferring YOUR money. Keep in mind that tax penalty will be charged at ordinary income tax rates.
A trustee is the term for the financial institution holding your retirement account for your benefit. These institutions are called “Custodians” - think Fidelity, Vanguard, Schwab, etc.
You may consider leaving your custodian for the following reasons:
A trustee-to-trustee transfer is also known as a direct rollover. A trustee-to-trustee transfer is when you have the trustee of your retirement plan send the funds directly to a new trustee where your account will be custodied.
Once you decide to proceed with a trustee-to-trustee transfer you will ask your current institution to initiate the transfer, or have your new institution send a request for the transfer of funds.
This will require you to have your account numbers, personal information, and account statements readily available to facilitate a smooth transfer.
An indirect rollover is when your account trustee issues a check directly to you as an individual, rather than directly to your new retirement account custodian. When performing an indirect rollover, it is your responsibility to get in touch with a new trustee or plan administrator. You'll also need to get the funds deposited into another account ASAP.
This should be avoided whenever possible because there can be severe tax consequences if performed incorrectly.
Indirect rollovers have a 60-day time limit to rollover the full amount you elect to withdraw. Here is an example:
When rolling over a 401 k worth $100,000, your plan administrator will withhold $20,000 by default, for your 20% tax liability. The check made out to you will be for $80,000.
The full balance of $100,000 would need to be deposited into your destination (new) accounts (you are now responsible for coming up with the $20,00 withheld) within 60 days to avoid any true taxation.
Any amount NOT deposited within 60 days will be counted in your income taxes, along with an additional 10% penalty for early retirement distributions if you’re under 59 ½ years old.
In this example you would have to use $20,000 from your personal funds to make sure the amount rolled over was $100,000. That $20,000 will be refunded to you next tax season IF you deposit the full $100,000 within 60 days of the original disbursement.
The absolute worst case is withdrawing the $100,000 and not depositing any of it into your new accounts within the 60-days. In that scenario you would owe income tax on the FULL $100,000 as well as an additional potential 10% for early withdrawal penalties, plus your regular income taxes for the year.
Don’t get overwhelmed and avoid the rollover process due to fear of mistakes. Moving a lump sum can be scary, but as long as you understand the process and rules, the process will be straightforward.
If you would like some assistance auditing your financial goals - click here to schedule a free no obligation consultation.
There are two traditional means of transferring your retirement plans from one institution to another.
Those are ACATs and Checks.
No matter the transfer method, you want the transfer to be sent to your new custodian directly, rather than you as an individual.
ACAT stands for Automated Customer Account Transfer. This is the easiest way for your rolled over funds to be sent to their new home. ACAT is the primary and preferred method for direct and trustee to trustee rollovers.
ACATs allow you to transfer your account with your investments intact, no sales necessary. You can also sell your investments to roll over cash, and then rebalance your portfolio as desired.
Financial institutions will have you fill out a form that requests information including prior custodian, account numbers, and personal identification information.
The destination institution will then send this to the old custodian of your account. The two institutions will review the information and process the ACAT.
A transfer by check can be done in two ways:
1. The old plan trustee sends you or your new trustee a check payable to your new trustee. The payee on the check will read something like: “Charles Schwab FBO (For Benefit Of) Joe Smith”. In the description line of the check, you will need to include the destination account number.
This is a trustee-to-trustee transfer. Regardless of where the check gets sent, as long as it is PAYABLE to the new trustee, there is no tax liability.
2.The old trustee of your account sends you a check that is payable to you.
This counts as a taxable distribution meaning you need to follow procedure for indirect rollovers. You need to make sure that you contact the old custodian and ask them to either send a check to your new custodian or reissue you a check payable to the new financial institution.
The check should ABSOLUTELY NOT be deposited into your personal bank account. Even though you intend to move your money from one institution to another this still counts as a distribution in the eyes of the government, incurring withdrawal penalties.
If you take direct payment from your retirement plans then the Internal Revenue Service will want their taxes, and potentially an extra 10% early withdrawal penalty.
The possible destinations for a rolled over account include:
There are reasons to consider each option and we will review them all.
If you change jobs and want to start a 401 k with your new employer, you need to get in touch with your new HR department and ask for the appropriate paperwork. You will need your personal information, old account information and the desired investment options for your new 401 k.
Consolidating multiple 401k’s can help you simplify organization of your retirement accounts. Joining your new 401 k is a good idea if you expect significant employer contributions. It can also help you simplify your investment selection process, as different 401ks may have different investment options meaning you may need to do different research for each 401 k.
Rollover IRA’s will be the most common option.
A rollover IRA is similar to a traditional IRA:
With that being said, if you move a 401 k into a non-rollover IRA, then you can’t move the funds back to a 401 k. This should be considered if you plan to reenroll in a 401 k at a new job.
This decision depends on your personal retirement goals. Investment advice should come from a source you trust like fiduciary financial planners and your tax advisor accounting for your complete retirement plan.
There are several reasons to roll a 401 k into another 401 k.
Likewise, there are several reasons to roll a 401k into a rollover IRA.
In either scenario make sure you perform a DIRECT rollover to avoid being taxed as a full distribution.
Note: When 401 k balances are below $5,000 and you separate from your employer, oftentimes they will require that you roll the funds out of the old plan and into an IRA or to your new employer.
Here are instructions to performing rollovers from 4 of the most common employer sponsored retirement plan custodians.
Regardless of where you're rolling funds out of, you will want to begin with the following steps:
Step 1: Have a destination account opened up at whichever custodian you plan to transfer funds into. This will allow for a direct rollover/ transfer.
For example: if you want to transfer from Fidelity to Schwab, have the proper Schwab account opened before starting. If you want to move from a Vanguard 401 k to a Vanguard IRA, have a Vanguard IRA opened up.
Step 2: Gather account statements that explicitly state your original account number, and your new account's number.
Step 3: Make sure you request a direct transfer from institution to institution to keep things as easy as possible.
To perform a rollover out of 4 of the most common custodians see below for more instructions:
Fidelity 401 k Rollover to Another Company
Vanguard 401 k Rollover to Another Company
Charles Schwab 401 k Rollover to Another Company
Principal 401 k Rollover to Another Company
We encourage you to seek the advice of a fiduciary financial advisor whenever you are attempting a rollover for tax free transfers without hiccups.
If you would like some assistance auditing your financial goals - click here to schedule a free no obligation consultation.
Here are the biggest mistakes that you can make when attempting a rollover:
An indirect rollover can make you pay taxes on 30% or more of your retirement assets if done incorrectly. You can also be pushed into a higher tax bracket should this happen. You also pay immediate taxes on the amount distributed. It is best to avoid this whenever possible.
Should you rollover indirectly, the 60-day rule requires that you rollover the entire amount of funds distributed from your retirement plan. If you do not follow this rule, you will owe taxes on the entire amount taken from the plan along with a potential extra 10% of early withdrawal penalties if taken before age 59 ½.
Attempting to perform a rollover on your own may leave you with far more questions than you started with.
For example:
All of these questions depend on your circumstances. You need to consider your personal goals and preferences. Are you looking for estate planning advantages? Does your new plan charge lower fees or add additional fees like a management expense? Does your new plan have a limited menu of investment options?
We recommend working with a financial planner and/or tax advisor, like a CPA, when executing a rollover.
If you would like some assistance auditing your financial goals - click here to schedule a free no obligation consultation.
Account rollovers can take between 2 days and 4 weeks depending on the type of transfer. Once it is completed, here a few things to be aware of:
1.Understand How the Assets Will Settle
The funds can be transferred in two ways:
Assets like proprietary funds (firm specific mutual funds) will likely be transferred as cash, as they can only be held by their respective custodian.
2.Remember the Early Distribution Penalty on Retirement Accounts
If you don't follow the 60-day rule, or you take a nonexempt distribution at any point before age 59 ½ that doesn’t meet the Internal Revenue Service federal law, you will face a 10% penalty in addition to income taxes.
3.Consider your Stability Needs
Think about what your time horizons before changing investment strategies. Any rollover should be consistent with your retirement plans.
4.Craft your New Investment Strategy
Often times direct rollover transfers from an employer account into an IRA will settle in cash. This provides an opportunity to rebalance your portfolio - without incurring a taxable event!
5.Execute your New Investment Strategy
Rollovers should be executed with the timeline and goals outlined with a trustworthy financial planner. If you’d like to see what a financial plan looks like and how it can inform your decisions, click here to read a sample financial plan.
What to do with an old 401 k?
You have a few options for an old 401 k plan:
Can you rollover a pension?
Yes!
You can make a pension rollover if your your company is ending its pension, and the pension was a qualified retirement plan (contributions are pre-tax dollars and earnings grow tax deferred), OR you are retiring.
If these two tests are met, you may rollover your pension into a 401 k or IRA.
Rolling from a pension into a 401 k is only an option should your current employer be closing its pension system in order to create 401k’s, or you join a new company with a 401 k available.
You can then rollover into an IRA if you go from a pension to a 401 k.
Should you consider consolidating 401 k accounts?
Pros:
Cons:
How long does a rollover take?
In most cases a retirement account rollover can take between a few days to a few weeks depending on the institutions involved and problems along the way like processing paperwork or selling investments.
The direct rollover (trustee-to-trustee transfers will be faster than an indirect transfer).
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