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The 401(k) is the most popular kind of employer-sponsored retirement plan in the United States. A 401(k) is a qualified retirement plan, meaning it is eligible for unique tax benefits under Internal Revenue Service (IRS) guidelines. You can invest a set portion of your salary into your 401(k) up to a specified annual contribution limit. Some employers match your contribution up to a certain percentage, and some do not. When a person changes jobs or leaves a job for another reason, a 401(k) rollover is sometimes necessary. While there are other reasons to complete a 401(k) rollover, these are the most common.
A 401(k) Rollover happens when a person directs the transfer of funds in a 401(k) retirement account to a new plan or Individual Retirement Account (IRA). The IRS gives sixty days from the date an IRA or retirement plan distributes to roll it over into another plan or IRA. Individuals are allowed only one rollover per 12-month period from the same IRA. This one-time allotment does not apply to plan-to-plan rollovers and certain other kinds of rollovers.
A 401(k) rollover to an IRA has some great benefits. When you rollover a 401(k) to an IRA, you have more diverse investment selections than a standard 401(k) plan as well as having potentially lower account fees. Many IRAs do not charge any account fees at all. A 401(k) rollover to IRA can be broken down into four steps, choose which kind of IRA account to open, open your new IRA account, ask your 401(k) plan for a direct rollover, or follow the 60-day rule, and choose your investments. A financial advisor will help decide where to allocate funds and which type of account will work best for you and your individual needs. A Roth IRA rollover will be taxed upon completion. A traditional IRA rollover is tax-deferred. However, if you do a rollover from a Roth 401(k) to a Roth IRA, you will not incur additional taxes.
There are several 401(k) rollover rules to consider, and they vary based on your situation. The type of 401(k) and the kind of account you want to rollover the 401(k) into make a difference in the tax implications, fees, and other potential consequences. All of this is why it is vital to get a financial advisor involved in your 401(k) rollover. A financial advisor will know the ins and outs of 401(k) rollover rules and be able to guide you to make the best decision for you and your unique situation and to avoid a potentially unexpected tax burden.
A traditional 401(k) is funded with pre-tax income. You will owe taxes on these funds once you begin withdrawing them, usually at retirement. A Roth IRA is funded with post-tax dollars, so you pay taxes upfront before the money is deposited into your account. If you rollover a traditional 401(k) to a Roth IRA, you will owe taxes in that tax year, but you will not owe taxes when these funds are withdrawn at retirement. An immediate tax burden may be avoidable by dispersing after-tax funds to a Roth IRA and pre-tax funds to a traditional IRA. Every year, the IRS reviews and sometimes makes adjustments to the maximum contribution limits for 401(k) plans, individual retirement accounts (IRAs), as well as other kinds of retirement savings accounts. Individuals aged 50 or over may be eligible to make “catch-up” contributions in excess of the annual limits.