The Advantages of Rolling a 401(k) Into an IRA

You maintain the tax deferred status of your money when you roll a 401(k) into an IRA.

Form 1040 Tax Forms image by Viola Joyner from

When you move between jobs, your employer may give you the option of leaving your existing 401(k) plan in place. You can no longer make additional contributions to the account but the money in the account continues to grow on a tax-deferred basis. For the sake of convenience, leaving the plan in place may make sense but there are many advantages to rolling your 401(k) into an individual retirement account, or IRA.


Every 401(k) plan contains a limited number of investment options, and in most instances, these options are a handful of different mutual funds. You decide which funds you want to invest in, but the fund lineup might not include an option that best meets your needs. When you set up an IRA, you assume total control of your investment. You can choose between mutual funds offered by numerous different companies and you can also buy individual stocks and bonds. You also have the option of investing some of your cash in conservative instruments such as annuities or certificates of deposits. Therefore, a 401(k) rollover provides you with a plethora of investment options.


Mutual fund companies often charge both upfront sales commissions and annual operating fees. You pay these fees whether you invest directly into an IRA mutual fund, or you buy funds through your employer's 401(k) plan. However, when you enroll in a 401(k), you also have to pay fees to the firm that acts as the custodian of the account. These firms often charge administrative fees for recordkeeping and various fees for account services and advice that you may or may not use. You reduce your costs and eliminate the middleman when you roll your money from your 401(k) directly into a mutual fund.


Withdrawals from both IRAs and 401(k) are subject to income tax and you may also pay a 10 percent tax penalty on withdrawals made prior to reaching the age of 59 1/2. When you make a withdrawal from a 401(k), the plan sponsor must withhold 20 percent of the withdrawal amount to cover taxes. Depending on your tax bracket, you may get some of this money back when you file your taxes or you may have to make an additional tax payment. When you withdraw money from your IRA, you can instruct the fund custodian not to withhold any taxes. This enables you to wait until the end of the tax year when you can calculate the taxes that are actually due on the withdrawal.

Required Minimum Distribution

Pre-tax IRAs and 401(k) are subject to required minimum distribution requirements, which mean you have to begin making withdrawals once you reach the age of 70 1/2. The RMD rules also applies to after-tax 401(k) designated Roth accounts. Withdrawals from Roth 401(k) are exempt from income tax if you hold the account for five years and do not access funds until you are 70 1/2. Nevertheless, you lose the ability to generate additional tax deferred earnings when you withdraw your money from the account. You can preserve your ability to generate additional tax deferred earnings by rolling your Roth 401(k) into a Roth IRA since Roth IRAs are not subject to RMD rules.