Yes, you can roll over your old 401(k) into a Roth IRA instead of a traditional IRA, but it involves a few additional steps and considerations. This article explores the rules, benefits, and potential drawbacks of choosing this path, providing valuable insights for those looking to make the most of their retirement savings.
Typically, most people automatically assume they should roll over their old 401(k) into a traditional IRA. However, a lot of people have been asking about another option lately – and that’s whether you can roll your 401(k) over into a Roth IRA instead.
Fortunately, the definitive answer is “yes.” You can roll your existing 401(k) into a Roth IRA instead of a traditional IRA. Choosing to do so just adds a few additional steps to the process.
Whenever you leave your job, you have a decision to make with your 401k plan. Most people don’t want to let an old 401(k) sit idle with an old employer and could benefit immensely by moving those funds somewhere that could benefit them more in the long run.
Let’s see if I can help you make “cents” of the situation.
But first, let’s look at the rules behind the strategy of rolling over your 401k into a Roth IRA.
Table of Contents
- Need to Open a Roth IRA?
- Roth IRA Rollover Rules From 401k
- Recap on Roth IRA Conversion Rule
- How Do I Rollover if I Receive the Check?
- What About the Roth 401k?
- 4 Signs It Makes Sense to Roll Your 401(k) Into a Roth IRA
- The Bottom Line – Rolling Over 401k into a Roth IRA
Need to Open a Roth IRA?
My favorite online broker is Ally Invest, but you can check out our recap on the best places to open a Roth IRA and the best online stock broker sign-up bonuses.
There are many good options out there, but I have had the best overall experience with Ally Invest. No matter which option you choose, the most important thing with any investment is to get started.
Roth IRA Rollover Rules From 401k
As a reminder, you must generally be separated from your employer to roll your 401k into a Roth IRA. However, some employers do permit an in-service rollover, where you can do the rollover while still employed. It’s permitted by the IRS, but not all employers participate.
Before January 1, 2008, you weren’t able to roll your 401(k) into a Roth IRA directly at all. If you wanted to do so, you had to complete a two-step process. (Keep in mind that this would also apply to old Simple IRAs, SEP IRAs, and 403bs, 457, and qualified pensions, too).
- Open a Traditional IRA.
- Convert the Traditional IRA to a Roth IRA.
However, the law changed shortly after, and this option became available. Still, just because the law has made this option available doesn’t mean you can definitely roll your old 401(k) into a Roth IRA, no matter what. Unfortunately, it all depends on your plan administrator.
For example, recently, I had two clients who intended to roll their old retirement plans into a Roth IRA.
One client had an old military retirement plan- Thrift Savings Plan (TSP) – and the other had an old state retirement plan. After helping each of them complete the required paperwork, I came across an interesting discovery.
The TSP rollover paperwork had a box you could mark if you wanted to roll over the plan into a Roth IRA (the instructions had been added to make sure you had a Roth IRA already established). However, the state retirement plan did not give that option.
The only option was to open a traditional IRA to accept the rollover and then immediately convert it to a Roth IRA. That certainly seemed like a hassle at the time, and it definitely was.
However, this man’s state retirement plan is not the only one I’ve encountered with these extra “rules.” Many 401(k)’s and 403(b)’s come with the same “No-Roth IRA Rollover” option. This option was supposed to be mandatory in 2010, but some still do it on a voluntary basis.
At the end of the day, this means you should explore this option thoroughly before automatically assuming it would work in your case. Ask questions, consult your financial advisor, and read through all of your rollover paperwork carefully before you begin moving in this direction.
Recap on Roth IRA Conversion Rule
These days, nearly anyone can take all of their traditional IRAs and old retirement plans and convert them to a Roth IRA. The amount you convert will be taxed, but it still can be an attractive move for those who feel that taxes are going nowhere but up.
How Do I Rollover if I Receive the Check?
If you receive a distribution check from your 401(k) rollover to a Roth IRA, then chances are good they will hold around 20% for taxes.
If you want a direct 401(k) rollover to a Roth IRA, you may want to send that check back to your employer 401(k) provider and ask to be sent all of your eligible retirement distribution directly to your new Rollover IRA account (not as a check, or they will just give you 80% again).
You have 60 days upon receiving the check to get the money into the Roth IRA- no exceptions! So don’t procrastinate on this one.
What About the Roth 401k?
If your employer offers a Roth 401k and you are savvy enough to take part, the path to a rollover will be much easier.
When you’re converting one Roth product to another, there is simply no need for conversion. You would simply roll the Roth 401(k) directly into the Roth IRA with the help of your plan provider.
Roll Your 401(k) By Following These Steps:
- You have to have a Roth IRA open/established before you can do any of this.
- Ask your plan provider about the paperwork required to roll your plan over, then complete the paperwork in a timely manner.
- Enjoy the tax-free growth of your Roth IRA!
4 Signs It Makes Sense to Roll Your 401(k) Into a Roth IRA
If you’re thinking of rolling your 401(k) into a Roth IRA instead of a traditional IRA, you have plenty of reasons to do so.
Not only do Roth IRAs let you invest your dollars in the same investments as traditional IRAs, but they offer additional perks that can help you save money down the line. Here are four signs that a Roth IRA might actually be your best bet.
1. You Expect to Pay Higher Taxes in the Future
Since Roth IRAs use after-tax dollars, you’ll have to pay taxes upfront on any funds you roll over. However, you won’t have to pay taxes on your distributions, which could be extremely beneficial if you’re taxed at a higher rate when you reach retirement. You’ll pay taxes either way – now or later.
But with a Roth IRA, you can rest assured your withdrawals will be tax-free.
2. You Want to Take Withdrawals When You’re Ready and Not a Minute Before
While traditional IRAs force you to begin taking withdrawals at age 73, Roth IRAs do not have this stipulation. Because of this, you can squirrel your Roth IRA funds away until you’re ready to use them.
3. You Expect to Earn More Money in the Future
If you plan to earn lots of money in the future – or earn a high income now – you should consider rolling your funds into a Roth IRA instead of a traditional IRA.
For single filers in 2024, the maximum income allowable for contributions to a Roth IRA starts at $146,000 and ends at $161,000. Learn more about Roth IRA rules and contribution limits here.
| FILING STATUS | MAGI | CONTRIBUTION |
|---|---|---|
| Married Filing Jointly / Qualifying Widow(er) | <$230,000 | Up to the Limit |
| Married Filing Jointly / Qualifying Widow(er) | ≥$230,000 but ≤ $240,000 | Reduced Amount |
| Married Filing Jointly / Qualifying Widow(er) | ≥$240,000 | Zero |
| Married Filing Separately, Lived With Spouse During the Year | < $10,000 | Reduced Amount |
| Married Filing Separately, Lived With Spouse During the Year | ≥ $10,000 | Zero |
| Single, Head of Household, Married Filing Separately, Did Not Live With Spouse During the Year | < $146,000 | Up to the Limit |
| Single, Head of Household, Married Filing Separately, Did Not Live With Spouse During the Year | ≥$146,000 but ≤ $161,000 | Reduced Amount |
For married filers, on the other hand, the ability to contribute to a Roth IRA begins phasing out at $230,000 and halts completely at $240,000 for 2024. The more you earn in the future, the harder it will become to contribute to a Roth IRA and secure the benefits that come with it.
4. You Want to Increase Your Tax Diversification
Contributions to traditional IRAs are tax-advantaged, meaning you won’t pay taxes on your invested funds until you begin taking withdrawals at retirement. Roth IRAs, on the other hand, are taxed upfront but offer tax-free withdrawals after the age of 59 ½.
If you’re unsure how your tax and income situation might pan out in the future, having both types of accounts – a traditional IRA and a Roth IRA – is a smart move in terms of diversifying your future tax exposure.
| 401k to Roth IRA Rollover Rules | Details |
|---|---|
| Eligibility | You can roll over a 401k to a Roth IRA if you have left the employer sponsoring the 401k and are no longer contributing to the plan. Some plans also allow in-service rollovers, but it’s best to check with your plan administrator for details. |
| Taxes | When you roll over a 401k to a Roth IRA, you will owe income taxes on the amount you convert. This is because contributions to a 401k are made with pre-tax dollars, while contributions to a Roth IRA are made with after-tax dollars. |
| Conversion Limitations | There is no limit on the amount you can convert from a 401k to a Roth IRA. However, the amount you convert will be added to your taxable income for the year in which you made the conversion, which could have tax implications. |
| Timing | You can convert a 401k to a Roth IRA at any time, but it’s important to consider the timing of the conversion carefully. If you convert when your income is higher, you will owe more in taxes. |
| Penalty-Free | If you are 59 ½ or older, you can convert a 401k to a Roth IRA penalty-free. If you are younger than 59 ½, you may be subject to a 10% early withdrawal penalty on the amount you convert. |
The Bottom Line – Rolling Over 401k into a Roth IRA
Rolling your 401(k) into a Roth IRA is a smart decision for many investors, but it may not be right for everyone.
Some financial advisors may suggest rolling over your 401k into a Roth IRA to take advantage of the tax-free growth the account offers.
While this can be a great option for some, it’s important to consider if you’ll be able to afford to pay the taxes on your contributions and earnings when you eventually withdraw them.
Before you pull the trigger, make sure to investigate all of your options and consider speaking with a tax professional. When it comes to complex investment vehicles and taxes, what you don’t know can hurt you.
Yes, you can roll over funds from a 401(k) to a Roth IRA without incurring any penalties, but there are some important rules and restrictions to be aware of. First, you’ll need to meet the eligibility requirements for a Roth IRA, which include having earned income and not exceeding certain income limits. If you’re eligible, you can roll over funds from your 401(k) to a Roth IRA by asking your 401(k) plan administrator to transfer the funds directly to your Roth IRA account. This is known as a “direct rollover,” and it allows you to avoid paying any taxes or penalties on the funds. However, there are limits on how much you can contribute to a Roth IRA each year, and there may be tax consequences if you exceed those limits. It’s important to consult with a financial advisor or tax professional before making any decisions about rolling over funds from a 401(k) to a Roth IRA. They can help you understand the rules and restrictions and determine if a rollover is the right move for your financial situation.
There are a few potential disadvantages to rolling over funds from a 401(k) to a Roth IRA. These include: 1. Tax implications: When you roll over funds from a 401(k) to a Roth IRA, you’ll have to pay taxes on the amount you roll over. This can be a disadvantage if you’re in a high tax bracket and don’t have other funds available to pay the taxes. 2. Loss of employer matching: If your employer offers matching contributions to your 401(k), you’ll lose out on those contributions if you roll over your funds to a Roth IRA. 3. Loss of certain benefits: 401(k) plans may offer certain benefits, such as loan provisions and hardship withdrawals, that are not available with a Roth IRA. If you roll over your funds to a Roth IRA, you’ll lose access to these benefits. Overall, rolling over funds from a 401(k) to a Roth IRA can be a good move for some people, but it’s important to carefully consider the potential disadvantages and consult with a financial advisor before making any decisions.
If you roll over funds from a 401(k) to a Roth IRA, you’ll have to pay taxes on the amount you roll over. This is because funds in a 401(k) are pre-tax, meaning you don’t have to pay taxes on them until you withdraw the funds. When you roll over the funds to a Roth IRA, you’re essentially withdrawing the funds and then depositing them into the Roth IRA, so you’ll have to claim that amount of reportable income. Since you’re “rolling over” and not taking a distribution, you won’t have to pay the 10% early withdrawal penalty if you’re under the age of 59 1/2. If you do choose to do this, be prepared to pay the taxes on the rollover out of pocket. Otherwise, if you use your 401k money to pay the taxes, you will be penalized for that amount.
The Roth 5-year rule is a requirement for certain tax-free withdrawals from a Roth IRA. In order for a withdrawal from a Roth IRA to be tax-free, the account must have been open for at least 5 years, and the withdrawal must be made after the age of 59 1/2. If these conditions are not met, the withdrawal may be subject to taxes and penalties. The Roth 5-year rule applies to both contributions and earnings in a Roth IRA. For example, if you make a contribution to a Roth IRA and then withdraw it within 5 years, the withdrawal will be subject to taxes and penalties unless it meets one of the exceptions to the rule. The same is true for earnings on your contributions – if you withdraw earnings from a Roth IRA within 5 years, they will be subject to taxes and penalties unless an exception applies. There are a few exceptions to the Roth 5 year rule, including: -Withdrawals made to pay for qualified higher education expenses -Withdrawals made to pay for qualified first-time homebuyer expenses -Withdrawals made due to the account holder’s disability -Withdrawals made by a beneficiary of the account after the account holder’s death. It’s important to understand the Roth 5-year rule and the exceptions to it before making any withdrawals from a Roth IRA. If you’re not sure whether a withdrawal will be subject to taxes and penalties, it’s a good idea to consult with a tax professional.
If you get a distribution check, it's likely they'll withhold around 20% for taxes. You have 60 days to deposit the money into the Roth IRA. If you wish to avoid receiving only 80% of your distribution, return the check and request that your retirement funds be sent directly to your new Rollover IRA account.
