401(k) Rollovers: A Quick Start Guide

The process of leaving or separating from your previous employer is wrought with complexities and important decisions that can have major impacts down the road. Add to this the emotional baggage that may come from an involuntary departure and the situation can become overwhelming. I hope to make one of these components, 401k rollovers or retirement rollovers, a bit simpler with some basic advice based on my experience during this transaction.

 Rules and Regulations

It is important to understand the rules and regulation surrounding company sponsored retirement plans. As a general rule the IRS allows 60 days for you to rollover or transfer your retirement to an individual account (IRA) or even into another company's (your new employer) retirement plan. What happens after 60 days will vary by company, but will typically involve additional costs or tax penalties depending on the retirement account.

My Experience

For me, after 60 days, my company would allow my retirement funds to remain within their retirement program. However, I would be responsible for the fees and expenses related to my account. If you hear terms such as those, it is usually safe to assume you are going to get raked over the coals with additional costs and would be financially better off to roll the funds into a broker account with lower expense ratios and minimal or no operational fees. 

A timely rollover will save you management fees and taxes to start. This will also ensure that your previous employer does not liquidate your account and mail you a check. 

✧✧✧If your company DOES mail you a check from your retirement account, there are a few things to consider. 

• You have 60 days to act to avoid major tax penalties. This may include having your previous company reporting this disbursement as income and incurring the early withdrawal penalty. 
• If you do not deposit your entire retirement account balance (the check will typically be less as the company is required to withhold 20% in taxes) to a new retirement account, you will be penalized at ~10% for the amount not deposited, plus taxes on that amount. 
• If you deposit nothing, you will be taxed at your rate, plus a 10% penalty. 
• Example: Your 401(k) has a value of $25,000 when you leave your job. Your company mails you a check for $20,000. You are now responsible to depositing $25,000 (you'll need to find another $5,000) to avoid tax penalties. If you only deposit $20,000, the remaining $5,000 is considered an early withdrawal incurring taxes and penalties. Let's say you make the average household income of $59,000, putting you in the 22% tax bracket (2018). The penalty in this scenario would be $500, but the additional taxes would be $1,100 causing you to pay in $1,600.  If you deposit none of the money, you would need to pay that $500 on top of the $5,000 you already forfeited.  

401(k) Early Withdrawal Calculator

Your overall goal is to rollover this retirement account using a direct transfer from your current account to a new (or previously created) IRA, Roth IRA, or your new company 401(k). For the sake of this post, we will assume an IRA and/or Roth IRA as one of these options is available to everyone. Income may limit your ability to open a new Roth account if you do not have a Roth 401(k).  2018 limits are  $189,000 for married filing jointed or $135,000 for single filers. Rolling over to Roth from traditional will also incur taxes and for this reason it is a safer bet to initially rollover a 401(k) to its corresponding IRA. 

Steps to Take

1) Select a broker

• There are a number of retirement brokers out there and competition is fairly fierce, which is good for you as this will drive down fees and management expenses charge yearly. Your selection should be a broker with the lowest or NO fees, as well as the lowest expense ratio funds. An ideal expense ratio is below or around 0.20%, with many options available for less than 0.10%. 
• My experience after reviewing a number of brokers, was to open an account with Vanguard. As long as you are able to meet the funding requirements, which are relatively low ($1,000-$5,000), you pay no fees and can select from a number of stock, bond, or balanced funds charging <0.10% in expense ratios. 

• As a side note, do not be drawn in by the idea of actively managed funds or high expense ratio funds promising sky high returns. Please research Warren Buffett's 2007 $1 Million Dollar Bet to Anyone or see the article Warren Buffett beat the hedge funds. Here's how. He bet anyone, and meant anyone,  that no method of active management or system of software could be the overall return of an S&P 500 index fund over 20 years. This really is all the evidence I need to present on the subject. High expense ratios are an unnecessary annual draw on your account regardless of performance. 

We are almost ready to begin our rollover. You'll need a few more pieces of information.

2) Determine the type of retirement account you currently have. You may have several (Traditional 401(k), Roth 401(k), etc.). 

3) Approximate the amount in each type of account. My experience in the rollover is as follows, with no real penalty for performing steps out of order:

✧✧Log in to previous employer's retirement account and gather fund values/types. I had a traditional 401(k) and a roth 401(k), which means I needed to open (2) new accounts to keep funds separated due to tax status. 

• At this point, I learned my employer had placed a hold on my retirement account and could not transfer money. I would never learn the reason for the hold, but did get to spend copious amounts of time calling customer service numbers to get the hold removed. This is not typical of rollovers, but is definitely worth the hassle to complete now rather than trying to work through this process in 30 years when you reach retirement. 

✧✧Call a new broker, in my case this was Vanguard, and open the necessary accounts. I explained my goal of a direct transfer rollover. At the end of ~15 minutes, I had letters from Vanguard directing my previous retirement account broker how to complete the transfer. This information is typically the new account number, the "pay to the order of" legal naming instruction, and address information. 

4) Call your previous account broker and request direct transfer rollover and provide the necessary information.

• Be prepared to be transferred to another account representative to hear a pitch and maybe a few tears to convince you to stay with that broker. They are preying on your convenience and conscious, but you have already done the leg work and have a new no fee account with low expense ratios ready for you! Stay strong and politely decline as you have already done your homework in selecting the best provider. 

5) The rollover is now complete. Check back after a few days to allocate funds into investments of your choice and verify all necessary information is correct.