Can I Withdraw My 401k and Transfer It to an IRA?
Employer-sponsored retirement plans tend to impose higher management and administrative fees than Individual Retirement Accounts (IRAs), and can offer limited investment choices.
An IRA gives you more control of your money, including fees you pay and whether or not to practice socially responsible investing. Any withdrawals prior to age 59 1/2 will incur taxes and a 10% penalty tax.
IRA Withdrawals
The IRS allows you to withdraw money from your IRA without penalty if it’s used for qualified expenses, such as first-time homebuyer purchases, qualified higher education expenses, unreimbursed medical bills exceeding 7.5% of adjusted gross income or certain long-term unemployment compensation expenses.
If you take money out of your IRA before reaching its required starting date (RBD) at age 70 1/2, taxes and an early withdrawal penalty of 10% will be withheld from it. To avoid these penalties and pay less tax overall, withdraw just enough from your RBD requirement before reinvested back into the same IRA account.
If you are called up for active military duty for at least 180 days, and withdraw money from your IRA contributions without penalty. Furthermore, emergency needs or disabilities qualify as valid reasons to access funds without penalty; this is known as substantially equal periodic payments (SEPP).
IRA Rollovers
If you wish to move the funds from a traditional 401(k) from your former employer into an IRA account, direct rollover can help. Simply contact the plan administrator of your former employer’s plan to request that distribution is sent directly to your new IRA account provider; once deposited within 60 days the funds can be free from taxes and penalties.
If your distribution exceeds 60 days, the IRS will consider it a taxable withdrawal and apply a 10% penalty if you’re under age 59 1/2. By taking the necessary steps in time, this penalty can be avoided.
Make sure that all transferable funds and any amounts withheld from distributions are deposited into your new IRA and that transaction receipts are saved as proof of rollover for tax time.
IRA Transfers
Transferring an existing IRA into another IRA at another financial institution without incurring taxes and early withdrawal penalties is known as indirect rollover, or simply “transferring”. Converting from Traditional to Roth IRA can also be accomplished using this process.
An IRA transfer differs from direct rollover in that you do not take possession of the money directly; rather, your old IRA custodian sends the check directly to the financial institution where you’re moving assets (known as trustee-to-trustee transfer).
Your new IRA custodian will deposit or send a check directly to you, according to their specific instructions, for delivery to their new provider. Transferring an IRA is nontaxable and won’t be reported to the IRS; however, in order to receive funds you must open an IRA at the same time – making this an easier and faster option!
IRA Conversions
If you anticipate entering retirement in a higher tax bracket or anticipate increasing income tax bills in the future, converting traditional pretax IRA and 401(k) plan accounts into Roths can make sense. Doing this will include converted funds as income in the year of conversion as well as giving you the option of withdrawing them tax free later. However if you’re under age 59 1/2 when making this conversion you will pay income tax plus an additional 10% penalty fee.
If converting too much in one year could put you into a higher tax bracket, it is best to spread the conversions out over several years. Also consider whether your IRA conversions might impact Medicare premiums or Social Security benefits and work with a CPA to develop the best strategy. For more on this topic, watch this video featuring Morningstar’s tax and IRA expert Ed Slott explaining how inflation works with tax brackets and can alter retirement savings decisions.
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