Wednesday, April 21, 2010

Roll 401k into Roth IRA

When changing employers, as I did last year, it's important to look at not just the short-term impacts but also the long-term. One of the most important of these is the retirement fund that you've been contributing all of your hard-earned money into. Typically this is a 401k, and it was in my case, so that's what I'll be writing about.

When breaking up with your employer you have various options on what to do with your retirement fund and these can vary by employer. In my case the funds have been sitting there held by the same company and growing without contributions. But it's decision time on if I just want to leave them there or not.

This forced me to look at the differences between a Roth and non-Roth accounts. There's a ton of information about these online so I'll just sum up my interpretation of it:

Roth accounts are post-tax instead of pre-tax. This means you pay taxes on the money now, and then move it to your retirement fund and do not have to pay taxes on it or your gains when you pull it out. While the tax defer is a benefit, especially if it saves you a tax bracket, that's all it is - a deferral. When you withdraw from your non-Roth 401k or IRA you'll have to pay taxes on a sum that's much larger than it was and in the future, what are the odds the tax rates will be higher then? I'd say pretty good. As such, going the Roth route seems like a no-brainer to me.

There's an added benefit in 2010 with your conversion to a Roth. You can defer the taxes so that you don't get dinged as hard during your conversion. This potentially helps prevent you from having to withdraw (and get penalized) from your funds to pay the taxes on them. For 2010 you'll be able to defer paying any taxes and then 50% of your funds are taxed on 2011 and the other 50% on 2012.

Talk to a professional to ensure you get this done right. I haven't done this yet, so look forward to more blogs about this as well as my journey into what is known as a self-directed Roth IRA. This gives you much more investing options and puts you in the driver seat. Not for everyone, but I'm excited about it and sharing that experience.

I'm curious what others have done when they've changed employers. Please share below and maybe we can pick some tricks up from each other!


  1. Talking money isn't taboo. There's a whole community of personal finance bloggers, many of which post their net worth every month and at least one that I know of that posts his actual expenses!

  2. Very interesting. I sort of have to laugh at myself because my 401Ks have just been sitting there from when I changed jobs and from when I became a stay-at-home mom. I recently got a letter saying I had to do something with one of them because it had gone below their limit. I guess since they are so pitiful it makes it that much easier to say goodbye to the money and pull it out to help pay for the adoption.

  3. Sounds like you are making the correct decision for what you want. I've thought about rolling my prior jobs 401k over to a different option, and if I did, Roth 401k seems the way to go. Just haven't taken the time to do anything about it... it'll probably end up sitting in same 401k it's in for awhile... although it's probably nice to do the deferment you mentioned, seems like a hassle to have to remember to pay taxes on 50% in 2011 and again in 2012...
    Cheers to the stock market and it's continual upward trend over time. Best of luck.