Whether you are let go from your position or you have moved on to another employer for better opportunities, leaving a job can be a stressful time. One thing you should not overlook is rolling over your old 401(k) account. Taking the correct steps can ensure that you avoid unwanted tax consequences that could occur with a rollover.
Never take a personal disbursement of your 401(k) funds by requesting that your plan administrator send you a check, unless you can't avoid it. When you do this, your money is subject to a 20 percent tax withholding for taxes, according to the financial website SmartMoney. This 20 percent withholding is taken directly from your 401(k) proceeds. Additionally, you might be hit with additional penalties and fees if you have not yet reached appropriate retirement age.
The 60-Day Rollover Rule
If you are unable to complete a direct rollover or have no choice but to take a cash disbursement of your 401(k) funds, there is still hope. The IRS has created a provision that gives you 60 days to reinvest your 401(k) funds into another 410(k) or IRA. You are still subject to the 20 percent withholding, and you must make up the difference so your new retirement account reflects the same balance as the old account. However, when you file your tax returns after the end of the year, you receive a credit for any taxes and penalties withdrawn from your original 401(k) account.
You can avoid the possible tax consequences of rolling over a 401(k) by arranging a direct rollover. Also known as a trustee-to-trustee rollover, this requires that you contact both the old plan administrator and the new plan administrator to initiate a direct transfer between the two. You must fill out a transfer form. The funds can be transferred electronically, or they can be issued with a check made out to the name of the new account trustee where your money is to be held.
Along with rolling over an existing 401(k) to a new 401(k), you have some other options available. You may roll over assets from a 401(k) retirement fund into an IRA. Transferring funds to an IRA does not incur taxes or penalties, and you have greater investment flexibility independent of an employer-sponsored plan. If your plan administrator allows it, you may also leave your 401(k) funds where they are, even after leaving or changing jobs.
Sara Melone is a mother of three and a graduate of UNH. With prior careers in insurance and finance, photography, as well as certifications in fitness and nutrition, Melone draws directly from past experience and varying interests. She contributes with equal passion to birth journals, investment blogs, and self-help websites.