In today’s economy, it’s not uncommon for an individual to accumulate multiple retirement accounts over the course of their career. In fact, given how often some professionals move from employer to employer, it can be easy for someone to accumulate several 401(k) accounts at prior employers. Furthermore. there are no limits on how many IRAs an individual may possess.
At some point it may become desirable (in order to reduce the record-keeping hassle of multiple accounts), or perhaps necessary (in the case of a retirement saver who wants to invest in higher priced assets), to consolidate or otherwise move funds between these various accounts. Here is some important information for what you can expect when transferring funds between IRAs and 401(k).
Distinguishing Between Rollovers and Transfers. Let’s first be clear in our use of the relevant terms. A “rollover” is generally understood to mean the movement of funds from one type of retirement account to a different type.such as from an employer-sponsored 401(k) plan to a self-directed IRA. A “transfer” is generally understood to mean the movement of funds between two accounts of the same type, such as two different Roth IRAs.
Direct Rollover Basics. A “direct” rollover option is probably the easiest option to roll over funds between different account types. To do so you’ll need to contact your plan administrator or custodian, and the process is likely to involve completing a few simple forms. Note that many 401(k) plans won’t allow you to rollover funds while you’re still contributing to your 401(k) account.
Transfers Between Like Accounts. The process for making transfers between like accounts depends on the account type. The process for transferring between IRAs is usually quite simply, and again will probably just involve completing a few forms. In contrast, 401(k) plans are generally more restrictive when it comes to transfers. Many 401(k) plan administrators won’t allow transfers out of your 401(k) plan if you’re still contributing. Furthermore, when you leave an employer you may be able to keep your 401(k) plan with the same administrator, but they’ll likely not allow any new transfers into your account.
Avoid the “Cash Out” Scenario. One common mistake is for an account holder looking to accomplish a rollover to take the funds directly themselves. While it is possible to do a ‘direct payment’ rollover (so named because payment from the account is made directly to the account owner), failing to comply with all the requirements of a direct payment rollover can be quite costly. For example, with this type of rollover the prior account custodian will likely withhold 20% of your account value for tax purposes. But you must deposit the full distribution value (i.e., what you actually receive plus the 20% that was withheld) into your new account within 60 days, after which you’ll receive a 20% withholding amount on your following year’s tax return.
Some individuals simply don’t have cash on hand equal to the 20% amount that was withheld, and failure to deposit the full account value in a new qualified account will lead to the shortfall being deemed an early distribution (and therefore subject to IRS penalties).
The ability to easily transfer in and out of an IRA is often a factor that leads many savers to prefer them to the comparatively inflexible 401(k) account.