What Is a Reverse Rollover for Your 401k?

Money Girl explains what a reverse rollover is, who should consider one, and the 10 main pros and cons to keep in mind before pulling the trigger

Laura Adams, MBA
7-minute read
Episode #388

Con #1: Less Control

With a retirement plan at work you can only make withdrawals when you have a specific qualified hardship, such as needing money to avoid foreclosure or to pay for a funeral. Hardship withdrawals are still subject to the 10% penalty that I previously mentioned.

On the other hand, with an IRA you can take a withdrawal at any time and for any reason, as long as you're prepared to pay income tax and the 10% additional penalty - with some exceptions that I'll cover next.

Con #2: Fewer Penalty Exceptions

With an IRA, not only can you make a withdrawal for any reason, but there are exceptions to the 10% penalty that come with an IRA that you don’t get with a workplace plan.

If you make an IRA withdrawal for the following 3 reasons, you’ll have to pay income tax, but get to avoid the 10% penalty:

  • Higher education costs, such as tuition, books, equipment, supplies, and room and board, for you, your spouse, your children or grandchildren.
  • Down payment for a first home up to $10,000, as long as you (or your spouse) didn’t own a principal residence during the past 2 years.
  • Heath insurance premiums if you’re unemployed.

Con #3: Limited Investment Choices

Having all your retirement money in a workplace plan means that you’re limited to its menu of investment choices. They might be more or less extensive than choices in your IRA.

Every retirement plan is different, so take a look at the investment options and make sure there’s plenty of variety to give you a well-diversified portfolio.

Con #4: Fees May Be Higher

With a workplace plan, you’re stuck with its fee schedule. Due to the administrative responsibilities of a 401k or 403b, they’re relatively expensive to run, and these higher account fees can erode your investment earnings over time.

On the other hand, with an IRA you have freedom to shop around for the best plan that has the lowest fees and most attractive investment options. So compare the expense ratios and fees in your IRA and 401k to evaluate whether a reverse rollover makes sense.

Con #5: Less Account Diversity

Having all your retirement money in a workplace plan means that you’re limited to its menu of investment choices. They might be more or less extensive than choices in your IRA.

If you roll over your IRA into your workplace plan, you won’t have an IRA to contribute to. But if you keep your IRA in place, you can contribute to both each year.

However, depending on your income, contributions to a traditional IRA may not be fully deductible when you’re also covered by a workplace plan.

For instance, for 2015, if you’re single with modified adjusted gross income over $61,000, you can still contribute to and even max out both a 401k and a traditional IRA in the same year, but you won’t get the full IRA tax deduction. If you’re married and file jointly, the income threshold goes up to $98,000 for when the tax deduction begins to phase out.

But even if you don’t get the full tax deduction, your traditional IRA contributions will still grow tax-deferred in the account, which is a terrific benefit. If your income isn’t too high, you could consider contributing on an after-tax basis to a Roth IRA instead.

See also: Your Guide to the Roth IRA, Part 1


About the Author

Laura Adams, MBA

Laura Adams received an MBA from the University of Florida. She's an award-winning personal finance author, speaker, and consumer advocate who is a frequent, trusted source for the national media. Money-Smart Solopreneur: A Personal Finance System for Freelancers, Entrepreneurs, and Side-Hustlers is her newest title. Laura's previous book, Debt-Free Blueprint: How to Get Out of Debt and Build a Financial Life You Love, was an Amazon #1 New Release. Do you have a money question? Call the Money Girl listener line at 302-364-0308. Your question could be featured on the show.