Closing 401K does “how” matter
Looking to close out a 401K and wondering if how I do so matters or makes a difference.
I took advantage of some NUA earlier this year so the 401K must be closed/emptied this calendar year. The 401K has a balance of $400K and obviously I need/want to get it empty. But I want to convert $100K into a Roth 401K. All the funds in the 401K so this will generate taxes due for the year.
I believe there are 2 or 3 ways to do this:
1. Take a $100K withdrawal (there are no penalties for me to withdraw from the 401K, but there would be from an IRA since I won’t be 59 1/2 for another month) and have the check sent directly to my IRA custodian for deposit into my Roth IRA.
2. Do a in 401K conversion from pretax $ into a Roth 401K. (The 401K plan does allow such conversions AFAIK.) Then have this Roth 401K rolled over into the Roth 401K (direct rollover).
3. (Not sure it this one is even possible) have the 401K custodian/administrator rollover $100K into the Roth 401K (done as a direct rollover.)
4. Have the 401K admin move the entire $400K out of the 401K and into a TIRA. Then have the second company rollover $100K from the TIRA to the Roth IRA.
Note that the TIRA and Roth IRA are at the same company but this is a different company from the 401K administrator. Also all these accounts have been open for over 10 years.
After the money is moved into the Roth IRA in options 1, 2, 3 the balance remaining in the 401K ($300K) will be rolled over into the TIRA.
None of the monies in this TIRA nor anyother I have contain any after tax $’s. Any after tax $’s in the 401K were previously moved directly into the Roth IRA to help avoid any pro rate implications. And direct IRA contributions over the years that were after tax were always put into a Roth IRA. In fact there was never a TIRA funded prior to pre-tax 401K $’s going in this year.
Are there specific advantages or disadvantages on any of these methods of funding the Roth IRA with $100K? Since there are no penalties for moving money from the 401K and all of them will generate $100K of income for TY2022, I don’t see any meaningful difference how it gets done.
Am I missing something?
Permalink Submitted by Alan - IRA critic on Mon, 2022-10-10 00:24
The end result of these options is the same. But if you do not have any Roth 401k balance now I would avoid creating one. Also, the plan might limit the number of direct rollovers to just one. Option 4 is the most commonly selected choice, and you are only doing one direct rollover from the plan this way. You will need to report the Roth conversion on Form 8606, but that is easy when the conversion is 100% taxable. Note that there is no 10% for any funds rolled into a Roth account, but if you did not qualify for the separation from service at 55 penalty waiver, you will owe the penalty on the cost basis of the employer shares.