A colleague of mine recently found himself in a great spot at a great time: He planned to roll a 401k plan from a previous employer (a great spot) into an IRA prior to the April 15 IRS tax filing deadline (great timing, as it gives him the chance to pick which tax year his contribution will fall under).
Of course, you don’t need great timing to enjoy the benefits of rolling over your 401k into an IRA. Funding an IRA — at any time of the year — is a great step toward your eventual retirement, and depending on your income and whether you have a retirement plan at work, has the added benefit of a tax deduction. (However, contributions to a Roth IRA are not tax-deductible.)
Better still, it’s easy to do. Simply ask for a transfer form through either your account custodian, existing brokerage account or benefits plan administrator, and fill it out.
There are two options for receiving the rollover distribution:
- Receive a payment in your name: 401k funds can be made payable to you, at which point you can make a payment to the IRA.
- Receive a direct rollover check: 401k fund distributions can be made payable directly to your IRA account either via a check or direct deposit wire.
Like I said, easy. Just keep in mind a few caveats:
- You must make the rollover into the IRA within 60 days of any distribution. That’s 60 days including weekends and any holidays. Missing the deadline is costly — your distribution is treated as a taxable event and could be subject to a 10% penalty if you are under 59 1/2 years of age.
- If you choose to receive a payment in your own name, the payer is required to withhold 20% of the proceeds. So if you want to roll over $25,000 from your 401k, $5,000 will be deducted, and your net check will be $20,000. Don’t worry, though — the withholding is refunded when you file your tax return (unless, of course, you owe that much money or more).
- In either distribution case, be sure the checks (or wire instructions) are accurate so they are accepted by the IRA custodian, and so you can avoid problems with the IRS. Institutions have their own rules and regulations on how monies are transferred and coded internally, so understand the language to avoid complications. For example, you do not want to mistake a “direct rollover” with a “transfer,” as a transfer can be misconstrued as a taxable event.
If you choose to take the 401k proceeds payment in your own name, keep an accurate record of when and where you deposited it to an IRA. The Transferor will spit out a 1099-R statement to the IRS detailing the payment of funds, and you must be able to prove you made a deposit into an IRA account within the 60 day limit.
With regard to a payment directly to the IRA account, be sure the check is made out to the correct entity (bank or financial services name) referencing the correct person (For Benefit of Marc Bastow) and an accurately named account (IRA Account #1234).
The easy part is making the decision to proceed with the rollover itself, and the process isn’t that bad, either — maybe the only source of aggravation is just making sure all the I’s are dotted. On the upside, every brokerage house will have a customer service rep that can help you along the way, so don’t be shy about using the phone if you’re unsure.
Marc Bastow is an Assistant Editor at InvestorPlace.com.