How to Roll Over Your 401k and 403b

by Kevin on February 24, 2011

We reminded you to not forget your retirement behind when you move to a new job in a new city. Today we will look at what steps you need to take to bring your old 401k or 403b with you.

If you’re moving an old retirement account you have a few options:

  • cash out the account
  • rollover the account into a Traditional IRA
  • rollover the account into your new work 401k or 403b

Cashing out your retirement is one of the financial dumbest things you can do. More on that in a moment.

The other two options are acceptable and really depend on what your investment options are at your new employer (if you have one).

Rollover Into a Traditional IRA

I’m a big fan of consolidating your old employer’s retirement account into a Traditional IRA. With a Traditional IRA you know what you’re getting into. You’ve hand selected an account provider. You know the fees that can be charged to you. But those are are all minor to this major fact: you get a much, much larger selection of investments to choose from.

A Traditional IRA at the right provider has as many investment options as you could want. Your typical employer-sponsored plan might have 10 to 20 mutual fund options to select from. They are usually broken up by investment type (growth, mixed, value; small company, large company) and your risk tolerance. But you might only have one or two options in the various categories. Those options may not be the best or least expensive option for you to have.

That’s the beauty of a Traditional IRA. You’ll get access to thousands of mutual funds and be able to select the investments that are right for you.

Rollover Into New 401k or 403b

You also have the option of rolling the funds into your new employer’s retirement plan.

Again, this is an acceptable option because, well, at least you aren’t cashing out your old retirement account. But the same reasons that a Traditional IRA is usually superior still stand: you have less options and more unknown costs in a 401k or 403b plan than you do in a Traditional IRA.

How to Rollover Retirement Account

To perform the actual rollover you have two options:

  • withdraw the funds manually and redeposit them in your new account
  • fill out a form and have your new employer or provider roll the funds for you

I bet you can guess which is the best option. Cashing out your 401k, even with the best intentions, is a bad move. You have 60 days from the day you withdraw the funds to redeposit them into an acceptable retirement plan. Failure to do so results in the same taxes and penalties you would face as if you had permanently withdrawn them.

There’s no need to take that risk. Let the two financial institutions talks and do the rollover on your behalf.

Specifics Steps to Rollover Your 401k

The steps involved in moving your retirement funds from your old job to a new account are:

  1. Select a place for the funds to land
    1. a Traditional IRA (pick a provider first)
    2. new employer 401k/403b (your provider is picked for you)
    3. cashing out (bad idea!)
  2. Perform the actual rollover of accounts
    1. Don’t do it yourself through withdrawals
    2. Have new provider roll it over

Never Close Your 401k or 403b

Unless you are in the most dire of financial situations and must find money from somewhere you should avoid closing or cashing out your 401k or 403b from your previous employer.

These are tax advantaged accounts. When money was taken from your paycheck and invested in your 401k you received a tax break. Your pre-tax income was lowered by the amount of the investment, and you paid tax on the lower amount.

At some point in the future you will have to pay tax. That income tax comes into play whenever you withdraw funds from the retirement account. (This is why the government forces tax advantaged accounts like 401ks, 403bs, and Traditional IRAs to take a required minimum distribution at age 70 and half. They need you to start paying income tax on the money.)

By withdrawing the funds today you’ll pay your current income tax rate. Depending on the tax bracket you normally fall into this can range from 15% to 33% with today’s tax brackets.

If that weren’t bad enough the IRS also levies a 10% early withdrawal fee on these types of withdrawals. You could lose anywhere from 25% to 50% of the value of the account off the top – that’s a shockingly large amount. (How would you like to pay $50,000 in fees and taxes on a $100,000 withdrawal?)

It’s a bad idea all around and you should avoid it if at all possible. Take the proper steps and roll your retirement savings from one tax advantaged account to another when you move jobs.

{ 1 comment }

Dr. Timothy Lawler February 24, 2011 at 7:18 am

Great overview. Yes, I agree with you in that cashing out your 401k is a very, very bad idea. Unless you are a super disciplined person, only bad things will happen. Keep up the great posts!

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