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10 Retirement Rollover FAQs That Will Make You Richer

Even though “doing a rollover” sounds like a cute dog trick, don’t underestimate its ability to save you some serious money. Laura answers 10 common questions about how to use a retirement rollover correctly so you avoid penalties, get more investment options, and continue building your retirement nest egg.

By
Laura Adams, MBA ,
March 28, 2018
Episode #537

10 Retirement Rollover FAQs That Will Make You Richer

Understanding how retirement accounts work and using them the right way can make the difference between having a secure future or just scraping by, after you stop working. They have powerful benefits, such as cutting taxes, automating contributions, and even receiving additional matching funds from an employer.

Problem is, retirement accounts are loaded with strict rules, which can be confusing and keep you from managing them properly. Rollovers are an often-misunderstood way to avoid taxes and penalties when you need to move money from one account to another, such as after leaving a job.

Even though “doing a rollover” sounds like a cute dog trick, don’t underestimate its ability to save you some serious money on taxes. A tax-deferred rollover occurs when you withdraw cash from one retirement account and contribute it to another account within 60 days.

When handled correctly, doing a rollover is the best way to move money between retirement accounts. But when mishandled, taking money out of a retirement plan can be expensive.

When handled correctly, doing a rollover is the best way to move money between retirement accounts. But when mishandled, taking money out of a retirement plan can be expensive.

In this article, I’ll answer 10 common questions about how to use a retirement rollover correctly. You’ll learn how to avoid paying tax penalties, get more investment options, and continue building your retirement nest egg when you need to change accounts.

Question #1: What is a retirement rollover?

Answer: As I previously mentioned, a rollover is when you move some or all your money in one retirement account to another retirement account, without incurring a tax penalty. Investments in the old account are sold and then you invest the proceeds in the new account by choosing from its menu of available options.

Withdrawing funds from a retirement account, without doing a rollover, typically causes you to pay income tax plus a 10% early withdrawal penalty, if you’re younger than age 59½. So, a rollover gives you a way to move your retirement funds without triggering an expensive, taxable event.

The most common reason to rollover retirement money is after you leave a job with a retirement plan, such as a 401k or 403b. If you don’t want to leave the funds with an ex-employer, you can move them into an IRA (Individual Retirement Arrangement) that you own as an individual.  

Even though it’s different than a 401(k), doing a rollover to an IRA within 60 days doesn’t trigger income tax or a penalty. Your new earnings in the account will grow tax-deferred, just like they did in your old workplace plan.

Question #2: How do you do a retirement rollover?

Answer: Let’s say you plan to leave a job with a 401k and want to move your funds to a traditional IRA. As soon as your employment ends, there are three simple steps to complete a rollover:

  1. Open a new traditional IRA, if you don’t already have one 
  2. Send a transfer request to your 401k
  3. Choose investments for your new IRA funds

You can download a rollover request form from your online retirement account, or get one from your account custodian or the benefits administrator at work. Depending on the institution, you may have the option for funds to be sent electronically, known as a trustee-to-trustee transfer or rollover. This is the best option because you never touch the funds.

The second-best option is called a direct rollover, which is when you receive a paper check made payable to your new account. You’re responsible for forwarding it to your new institution within a strict 60-day deadline.

If you don’t contribute all the funds to a new retirement account within 60 days (including weekends and holidays), it’s considered an early withdrawal, subject to income tax plus a 10% penalty, if you’re younger than age 59½.

There’s a third option for receiving a rollover distribution that I don’t recommend: having a check made payable to you. When you receive retirement funds in your name, there’s a mandatory 20% withholding penalty applied—even if you intend to complete a rollover. This is a safeguard for the IRS, just in case you change your mind and decide to keep the cash.

For example, if you want to roll over $10,000 from your 401(k), the custodian withholds 20% for taxes and you’d only get a check made payable to you for $8,000. If you complete the rollover, you eventually receive a refund for the withholding when you file taxes.

But that could be many months away and you lose the ability to earn potential investment gains every day that you don’t control those funds. So, remember that a trustee transfer or a direct rollover is the best for your wallet.

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