8 Important Details Regarding Early Retirement Plan Rollovers

Edward Goldstein |

You’re probably aware that there are many options for retirement planning including 401(k)s, IRAs, Roth IRAs, and more. Some of the more common plans are employer-sponsored ones like 401(k)s, 403(b)s, and 457(b)s. These arrangements have higher contribution limits and let employees save for retirement on a post-tax or a tax-deferred basis, which is more typical.

However, as individuals move from job to job or employer to employer, they are faced with decisions about what to do with their retirement accounts. Early retirement plan rollovers are a smart option for some individuals. But, like ay major money move, you should understand the pros and cons first to evaluate if this strategy supports your overall financial plan. 

Pros of Rolling Over Employee Sponsored Plans:

  1. Won’t have to pay taxes or penalties

    You won’t have to pay taxes or penalties with an early retirement plan rollover to an IRA. Most employer-sponsored plans and IRAs are tax-deferred accounts. This means that you’ll only be taxed at ordinary rates once you take distributions, not upon rollover.

    Rolling your 401(k) over into an IRA won’t subject you to a 10% penalty if funds are transferred directly between custodians. However, depending on your situation, you will be subject to these penalties and/or taxes if you cash out your 401(k) or roll it over to a Roth IRA since Roth contributions are made with after tax.dollars.  
  1. Lower fees and wider investment options

    A significant advantage of IRAs are more variety in investment choices than 401(k) plans. Within a Rollover IRA, you can invest in single stocks, bonds, ETFs, options, and other products that aren’t available via most employer-sponsored plans making desired diversification more difficult. Also, most IRA investments have lower fees than some employer-sponsored plans.
  1. Easier to manage

    It’s becoming rare to find employees that stay at a company for decades as the average job tenure is approximately 4 years. Rolling over past 401(k)s into a single IRA will let you or your advisor manage the money wholistically by coordinating on the “big picture”.
  1. Flexible withdrawal exceptions

    Besides the new CARES act penalty-free withdrawal rules, IRAs and Roth IRAs have special exceptions for penalty-free withdrawals. Currently, you can withdraw up to $10,000 from either of these accounts for higher education costs or a down payment for a first time home purchase. You can apply this rule to each special case just once over your lifetime.

    Some other special circumstances that qualify for this rule include unreimbursed medical expenses, health insurance premiums when unemployed, and permanent disability. Working with a qualified advisor is very important to navigate and brings focus to the need to tread carefully to avoid unexpected tax liability.


  1. Can make it harder to retire early or later. Have you heard of the “Rule of 55”

    Age 59.5 is the cutoff for taking penalty-free withdrawals from 401(k)s. Yet, most people don’t know about the “Rule of 55”. This little known rule will let you take penalty-free withdrawals from your current employer’s retirement plan once you turn 55 and you have been laid-off, fired, or quit your job. If you transfer via a retirement plan rollover, then you’d have to wait until you turn 59.5 to take penalty-free withdrawals unless you meet specific IRS guidelines.

    Another important factor to consider is the required minimum distributions or 
    RMDs. This rule requires you to take a distribution from your IRAs and 401(k)s once you turn 72, recently increased from age 70 1/2. If you plan on working into your 70s, consider keeping money in your employer’s 401(k). Funds in your current employer’s 401(k) will not be subject to RMDs, unlike those in IRAs.
  1. Differing protection from lawsuits and creditors depending on your state

    401(k)s offer more protection from lawsuits and creditors under the Employee Retirement Income Security Act of 1974 or ERISA act. If someone wins a judgment against you in a lawsuit, then your 401(k) funds are protected. Depending on your state, IRA accounts don’t offer the same legal protections, some states do entirely provide very strong protections. 

    Employer-sponsored retirement accounts are also protected from bankruptcy. IRAs balances are protected up to roughly $1,200,000 which is adjusted for inflation annually. But again, each state has its own unique statutes and regulations providing varying protections.
  1. Can’t borrow from IRAs

    If your retirement plan allows, you can borrow up to the lesser of 50% of your vested account balance or $50,000 from your 401(k) or 403(b). Loans might be useful during times of hardship and as a last resort. However, you must pay these funds back with interest or you’d face penalties and ordinary income taxes. Also, if you leave your employer, you have a limited time to repay the entire loan or be forced to be treated remaining balance loan as a taxable distribution. You’d also miss out on potential market gains by taking a loan from your retirement plan.

    IRAs have some flexibility with penalty-free distributions, but you can’t borrow against them as you could with employer-sponsored plans.
  1. Potentially higher taxes on company stock and NUA

    If you have a substantial company stock position in a 401(k), think twice before doing an early retirement plan rollover to an IRA. Without proper timing, rolling over company stock could lead to higher income taxes on the NUA. The NUA is simply the difference between the original price (i.e. cost basis) of the company stock when you received it and its current value when rolled over.

    If you handle correctly, you won’t pay taxes on company stock that’s moved to an IRA. But, you’ll have to pay higher ordinary rates when you sell it. If you move the stock, you’d pay higher ordinary rates on your cost basis. Luckily, you’d only pay lower capital gains rates when you sell the stock.

There are many tools that you can use to save for retirement, but employer-sponsored plans like 401(k)s and 403(b)s are some of the more standard options. It’s important to understand how they will fit into your long-term plan before deciding to perform a rollover.

Are you feeling a bit overwhelmed? This is where as a client Fiduciary and CFP, I can bring great value to your situation.

Unsure of your options with early retirement plan rollovers or managing your existing accounts? Schedule a free consultation using the Free Consultation button on the top of the screen!

*This content is developed from sources believed to be providing accurate information. The information provided is not written or intended as tax or legal advice and may not be relied on for purposes of avoiding any Federal tax penalties. Individuals are encouraged to seek advice from their own tax or legal counsel. Individuals involved in the estate planning process should work with an estate planning team, including their own personal legal or tax counsel. Neither the information presented nor any opinion expressed constitutes a representation by us of a specific investment or the purchase or sale of any securities. Asset allocation and diversification do not ensure a profit or protect against loss in declining markets.

Edward C. Goldstein, CFP®, MBA, President
Financial Life Planning, LLC
10,000 Lincoln Dr. East, Suite 201
Marlton, NJ  08053
Phone: 856-988-5480
Fax: 908-292-1040