401(k) to IRA Rollover Taxes: A Retiree's Guide

A direct trustee-to-trustee transfer from a 401(k) to a traditional IRA is generally not a taxable event. The tax problems come from three places: taking the distribution yourself, mixing pre-tax and Roth dollars, and missing the 60-day deadline.

Whether it is taxable depends on how it is done

People ask whether a rollover is taxable as though it were a property of the account. It is closer to a property of the method. The same balance, moving to the same IRA, can be a non-event or a taxable distribution depending on whose hands the money passes through and how long it takes.

This page is about the tax mechanics. Whether to move the money at all is a separate question with four possible answers, and we cover that in Social Security and 401(k) rollover planning. Decide that first. What follows assumes you have.

Direct and indirect, and the withholding trap

A direct rollover, sometimes called a trustee-to-trustee transfer, sends the money from the plan to the receiving account without passing through you. An indirect rollover pays the distribution to you, and you have 60 days to deposit it into the receiving account.

The difference is not administrative. Under IRS rules, an eligible rollover distribution paid to you is generally subject to mandatory 20 percent federal withholding. The plan sends 80 percent and remits the rest. To complete a full rollover you then have to deposit the whole original amount, replacing the withheld portion from other money, and recover it later through your tax return. If you deposit only what you received, the withheld portion is generally treated as a taxable distribution, potentially with an additional tax if you are under the applicable age.

This page is general information, not tax or legal advice, and not a recommendation to roll over, transfer or distribute any account. Rules change. Confirm current withholding, deadlines and limits with the IRS or your CPA before moving anything.

Matching the money to the right account

The second source of surprise is pairing. A 401(k) may hold traditional pre-tax dollars, Roth dollars, and sometimes after-tax dollars that are neither. Each has a destination where it lands without tax and a destination where it does not.

Two of these deserve a flag. Converting pre-tax money to a Roth IRA is a deliberate tax decision, not a transfer, and its size interacts with your bracket, with how much of your Social Security benefit is taxable, and with Medicare premium surcharges in a later year. That sizing question is the subject of our tax-efficient retirement planning work.

And if your plan holds employer stock, a separate set of rules may apply to the treatment of its appreciation. It is a narrow provision, it is easy to forfeit by moving the shares first, and it is worth asking about before anything moves rather than after.

What arrives at tax time

A rollover that is not taxable still generates paperwork, and the paperwork alarms people every year.

The plan issues a Form 1099-R reporting the distribution, including for a direct rollover that carries no tax. The receiving institution issues a Form 5498 reporting the contribution to the IRA. The two are meant to reconcile. The rollover is generally reported on your return even where nothing is owed, and the distribution code on the 1099-R is what tells the story.

The practical advice is short. Keep both forms. Give them to whoever prepares your return, and tell them a rollover happened rather than assuming the forms speak for themselves. A correctly executed rollover reported incorrectly is still a problem, and it is a much easier one to prevent than to unwind.

Before you move anything

Worth confirming in this order, ideally before the paperwork starts.

• Which of the four options you are actually choosing: leaving it in the plan, moving it to a new employer's plan, rolling it to an IRA, or taking cash
• Whether you separated from service in or after the year you turned 55, which can preserve an exception to the additional tax that generally does not follow the money to an IRA
• Whether the plan holds Roth or after-tax amounts, and where each is going
• Whether the plan holds employer stock
• Whether any loan is outstanding, since an unpaid balance is generally treated as a taxable distribution
• That the transfer is being done directly, and that the receiving account is open and correctly titled first
• That beneficiary designations are set on the new account, because they do not travel with the money

That last point is the one most often missed. Retirement accounts pass by designation rather than through a will, so a transfer is a moment to set them deliberately and check them against your estate documents, which is part of estate and legacy planning and done with your attorney.

Federal employees have a parallel version of all of this with its own rules, covered in TSP rollover options for Kansas City federal employees.

Where we work

CFG Wealth Management Inc. is an independent firm based in Prairie Village, Kansas, led by LaMont Chandler, CRD 2794744. We are not affiliated with cfgwmt.com or with any other firm operating under a similar name. Our office is on West 94th Terrace, and we work with households across the communities we serve in the Kansas City area. We read plan documents and statements with clients, including accounts held elsewhere, and we coordinate with your CPA on anything with a tax consequence.

LaMont Chandler holds FINRA Series 7, 24 and NASAA Series 63, 65 registrations and has been registered in the securities industry since 1996. He is registered in Kansas, Missouri, Texas and Idaho. Securities and advisory services are offered through Madison Avenue Securities, LLC, member FINRA and SIPC, and a registered investment advisor. CFG Wealth Management Inc. and Madison Avenue Securities are not affiliated companies. His record is available on FINRA BrokerCheck.

Common questions

Where this connects

• 401(k) and rollover planning compares the four options against your own plan
• Social Security and 401(k) rollover planning covers how the two decisions interact
• Tax-efficient retirement planning covers conversion sizing and withdrawal order
• TSP rollover options for federal employees
• More retirement planning insights