The Rollover Decision Guide

The options

The four options

Option	What it means	Worth a hard look when
Leave it	Stay in the old employer plan. A plan can cash out a vested balance of $7,000 or less.	The plan is large, cheap, and has good investment options.
Move to the new plan	Roll into your new employer’s plan, if it accepts rollovers.	You want one account and the new plan is well run.
Roll to an IRA	Move to an individual retirement account you control.	The old plan is expensive or restrictive, and you want wider choice, or you are consolidating several plans before retirement.
Cash out	Take the money. Ordinary income tax, plus an additional 10% tax if you are under the age threshold.	Only when you need the cash. The tax, and any additional tax, is due at once.

What actually separates them

Convenience and investment choice are not the only differences between the options. These seven are the ones to compare.

1. Cost

A large employer plan can offer institutional share classes that cost less than the identical fund in a retail IRA; a small plan can cost more and carry recordkeeping fees an IRA would not. There is no general rule. Get the plan fee disclosure and compare it against what the IRA would truly cost, including any advisory fee. The comparison has to be made in dollars, not in percentages.

2. Creditor protection

ERISA requires a pension plan to provide that its benefits may not be assigned or alienated. IRA protection comes from other law: in bankruptcy, federal law caps the exemption for contributory IRAs, without counting amounts rolled over from an employer plan. If you work in a field with real liability exposure, a physician, an executive with personal guarantees, a business owner, this deserves weight rather than a footnote.

3. Access before the normal retirement age

A rule allows penalty-free distributions from an employer plan for someone who separates from service in or after the year they reach 55. That rule does not follow the money into an IRA, where the 10% additional tax applies until 59½. Rolling over before thinking about when you actually need the money can close a door you wanted open.

Related, and specific to public employees: a governmental 457(b) generally allows withdrawals at any age once you leave employment, with no early withdrawal penalty. Rolling a 457(b) into an IRA destroys that advantage permanently. A 457(b) at a hospital or other non-profit is different again: it cannot be rolled over at all.

4. Employer stock

If your plan holds appreciated stock of your employer, a provision called net unrealized appreciation may allow the growth to be taxed at long-term capital gains rates rather than ordinary income rates. Rolling those shares into an IRA generally forfeits that treatment permanently. It applies only to shares taken in a lump-sum distribution.

5. Money type, and the two traps inside it

Plans can hold pre-tax, Roth, and after-tax non-Roth money at the same time, and each is handled differently on the way out. A rollover done without identifying which is which can create an avoidable tax bill or lose track of basis. At a large balance, two specific things are worth settling before the paperwork is signed.

• After-tax non-Roth money can be split off. If you contributed after-tax dollars beyond the ordinary deferral limit, that money does not have to follow the rest into a traditional IRA. The Internal Revenue Service treats distributions sent to multiple destinations at the same time as a single distribution for allocating pretax and after-tax amounts, which means, in its words, you can roll over all your pretax amounts to a traditional IRA or retirement plan and all your after-tax amounts to a different destination, such as a Roth IRA. Done at separation, that moves the after-tax balance into a Roth account at no tax cost. Done without asking, the same money lands in a traditional IRA and you track its basis on Form 8606 from then on.
• A Roth 401(k) does not carry its clock with it. Rolling a designated Roth account into a Roth IRA starts the Roth IRA’s own five-year period. The Service is explicit: the period that the rolled-over funds were in the designated Roth account does not count toward the 5-taxable-year period for determining qualified distributions from the Roth IRA. If you have ever contributed to any Roth IRA, the period runs from that earlier contribution and the problem does not arise. If you have never held one, the clock does not start until you do, which is a reason to establish one well before the money is needed rather than in the month you need it.

6. Your other IRAs, and the back door

If your income is above the Roth contribution limit and you have been making non-deductible contributions to a traditional IRA and converting them, a large pre-tax rollover ends that. Form 8606 uses the total value of all your traditional, SEP and SIMPLE IRAs at December 31 when working out how much of a conversion is taxable, so a seven-figure rollover sitting alongside a small non-deductible contribution makes almost the whole conversion taxable. Employer plan balances do not enter that line. That cuts both ways: rolling to an IRA closes the back door, and rolling an existing traditional IRA into an employer plan, which the rollover rules permit for pre-tax amounts, reopens it. This is an argument for the second option in the table above.

7. When the distributions are forced

Two mechanics matter once required minimum distributions are in view, and they point in opposite directions. In the Service’s words, an IRA owner must calculate the RMD separately for each IRA they own but can withdraw the total amount from one or more of the IRAs, while distributions required from other types of retirement plans, such as 401(k) and 457(b) plans, must be taken separately from each of those plan accounts. If you are carrying three or four old plans, consolidating is simpler. Against that, a participant who is still working can delay taking required distributions from the current employer’s plan until the year they retire, unless they are a 5% owner of the business sponsoring the plan, and no equivalent deferral exists for an IRA. If you intend to work past 73 and you do not own 5% of the business, money moved out of a plan starts being forced out years earlier than it had to be.

The indirect rollover trap

Taking the check yourself. A direct rollover moves money between institutions without passing through your hands. An indirect rollover pays you, withholds 20% federal tax, and gives you 60 days to deposit the full original amount, including the withheld portion, using other funds. On a $1,800,000 balance the withholding is $360,000, and the shortfall becomes a taxable distribution if it is not replaced in time. Ask for a direct trustee-to-trustee transfer and get written confirmation that is how it is being processed.