What Is An In-Service Rollover of a 401(k)?

In this post, we'll explore the benefits and considerations of 401(k) plans, including the advantages of in-service rollovers and how they can provide greater flexibility in managing your retirement funds.

The Basics of a 401(k) Plan

A 401(k) plan is a powerful tool for employees to save for retirement. Contributions to this employer-sponsored retirement plan are made pre-tax, allowing your savings to grow on a tax-deferred basis. This means you won’t pay taxes on the money until you withdraw it, usually during retirement when you might be in a lower tax bracket.

Employers often enhance these plans by matching employee contributions up to a certain percentage, making it an effective way to build your retirement savings. For 2024, the employee contribution limit is $23,000, and the combined employee and employer contribution limit is $69,000.

Catch-Up Contributions and Additional Savings

If you are 50 or older, you can contribute an additional $7,500 as a catch-up contribution, raising your total contribution limit to $30,500. Some plans also allow post-tax contributions beyond the pre-tax and Roth limits, though total contributions cannot exceed your annual compensation at the company.

Rules and Penalties

401(k) plans come with strict rules. Withdrawals before age 59½ typically incur a penalty, although some plans allow penalty-free distributions at age 55 if you have separated from service.

Rolling Over a 401(k)

Many employees think about rolling over their 401(k) plans when changing jobs or retiring. Rolling over to an Individual Retirement Account (IRA) is a common choice, providing more control over the funds and a broader range of investment options.

The In-Service Rollover

An in-service rollover allows current employees to move assets from their 401(k) to an IRA without taking a distribution. This can offer more flexibility in managing retirement funds. Employees aged 59½ or older can avoid the 10% penalty on these rollovers and won't need to pay deferred taxes immediately. However, rules are plan-specific, so check with your provider to see if this option is available.

Benefits of an In-Service Rollover

Not all 401(k) plans offer a wide range of investment options. A rollover into an IRA provides access to a broader universe of investments, including stocks, bonds, ETFs, and more. This can offer greater control over your retirement portfolio and the ability to choose your fund manager.

Diversification is a key benefit of moving to an IRA, as it allows for a wider range of investment opportunities. This helps in aligning your portfolio with your risk tolerance and long-term financial goals. Additionally, an IRA can facilitate Roth IRA conversions, providing further tax planning strategies.

IRA investors should examine the fees they are currently paying. Moving funds to an IRA could potentially lower overall expenses, although IRA investments may have associated fees such as management, advisory, service fees, and trading commissions.

Drawbacks of an In-Service Rollover

Before proceeding with an in-service rollover, verify if your 401(k) plan allows it. While you can generally continue contributing to your 401(k) after the rollover, some plans may impose a temporary ban on contributions.

For early retirees, many 401(k) plans allow penalty-free withdrawals at age 55, while IRAs generally require you to be 59½ to avoid the 10% penalty. Additionally, 401(k) loans are an option for active employees under 59½, but IRAs do not permit loans.

Fees and Required Minimum Distributions

While in-service rollovers can reduce fees, they can also increase costs for IRA investors. The broader range of investment options may lead to more complex and expensive strategies. It's also crucial to understand the rules around required minimum distributions (RMDs). At age 73, the IRS requires you to withdraw a minimum amount from your retirement accounts each year.

Net Unrealized Appreciation (NUA) Considerations

An in-service rollover can impact Net Unrealized Appreciation (NUA). NUA allows for the application of long-term capital gains on the difference between the cost basis and current market value of a security in a tax-deferred account. This strategy could be affected by an in-service rollover, potentially preventing its future use. Consult with your tax advisor to understand how NUA might apply to your situation.

Conclusion

Working with an expert retirement planner or a wealth management advisor can help you navigate these options, ensuring your investment strategy aligns with your long-term financial goals and risk tolerance.

401(k) plans offer substantial benefits for retirement savings, and an in-service rollover can provide additional flexibility and control. It's essential to understand the specifics of your plan and consider both the benefits and drawbacks before making a decision.

Call Haywood Wealth Management today for a free consultation to see if an in-service rollover makes sense for you.