By Dr. James M. Dahle, WCI Founder
Q. I just changed jobs and was wondering what to do with my old 401(k). Should I keep the accounts from the old job and new job separate? Should I convert it to an IRA?
A. You really have five options with an old 401(k) or 403(b) and need to choose from them based on your situation.
5 Things You Can Do with an Old 401(k)
#1 Do Nothing
If your old 401(k) had low expenses, or if there were some unique investment options such as the TIAA-CREF Real Estate Fund, a nice stable value fund, or the TSP G Fund, or if your new 401(k) has lousy options or high expenses, then just leave the money in your old 401(k). Usually, there's no problem with that as long as there's more than a couple of thousand dollars in the account, but check your 401(k)Plan Document to be sure. This is what I did when I left the military since the TSP not only had rock-bottom expenses, but also the very unique G Fund.
#2 Roll It Over to a Traditional IRA
This can be a great option if you're not interested in a Backdoor Roth IRA. Most docs either ARE or SHOULD BE interested, so this probably isn't that good of an option for a high earner. The benefits of a traditional IRA over a 401(k) can include lower expenses and more investment options. Downsides include loss of the Backdoor Roth IRA option and in some states, less asset protection than a 401(k). But if it's a large account balance, your old 401(k) had lousy investments or high expenses AND your new 401(k) has lousy investments or high expenses, then this might be your best option.
Keep in mind that rules get a little more complicated if any of your 401(k) is a Roth subaccount. When rolling it over to an IRA, tax-deferred money goes into a traditional IRA and tax-free money goes into a Roth IRA. I have read but have been unable to confirm in an IRS document that EARNINGS on tax-free money go into the traditional IRA unless the account has been open for at least 5 years. Keep in mind that if you're near retirement age, the rollover resets the 5 year period before you can take Roth distributions, so you might not want to do that.
#3 Convert It to a Roth
Sometimes it's just easier to bite the bullet and pay the taxes. This is a good option if both 401(k)s suck, if the balance isn't that big, and you have money elsewhere to use for the taxes due, and you DO care about backdoor Roth IRAs. Or perhaps you just want more Roth space for some other reason.
#4 Roll It Over to the New 401(k)
If you want to have the Backdoor Roth IRA option, and your new 401(k) is clearly better than the old one, or if you highly value simplification of your finances, then the easiest thing to do is often to just roll the old 401(k) into the new one.
Don't give up on that old 401(k)… just get it back to work for you.
Keep in mind with a Roth 401(k) that this resets the “5 year period” to the establishment of the new Roth 401(k), so be careful if doing this just before retirement. If you have an even older 401(k) that you kept in the past because it was good (like my old TSP account) you could also roll it into there if the plan allows it.
#5 Cash It Out
You can always take the money out, pay the taxes and penalties due, and spend it on a boat. I told you there were 5 options, not 5 good options. If you have a tiny balance in the 401(k), this is sometimes the easiest thing to do. I suppose if you're over 59 1/2 and beginning to spend 401(k) money (perhaps only working part-time and relying on retirement money for part of your income), you might as well start 401(k) withdrawals now, making this a more reasonable option.
What have you chosen to do with an old 401(k)? Comment below!
I’ve never really seen a 401k with lower fees than a Vanguard IRA list of index funds. I would just say roll it over to a traditional IRA if you make too much and then do a roth conversion. I think the expense ratio on the S and P 500 vanguard index fund is something like 0.05% which is cheaper than any fund in a 401k that I have seen.
There are sometimes also fees for keeping your 401(k) with your (old) employer’s plan. I know mine has one. It’s pretty small compared to my balance now (~0.07%) and by the time I leave it would be even smaller, but it is something to consider. I have Vanguard index funds in my 401(k), but they’re all Investor Shares. I would probably roll it over either to an IRA or to the new employer’s 401(k) when I leave, depending on what funds they have available.
DFD-
Those additional expenses may pale in comparison to the extra taxes due. Sure, if you’ve only got $20K in the old 401K, the taxes aren’t too bad. But what if it’s a $400K 401K? “Just converting” that at your marginal tax rate could trigger a tax of $150K or more. If you do that conversion gradually, or in years when income is low, or just withdraw it gradually in retirement, you may pay much less in taxes, perhaps $50K. Paying an extra $100K in taxes to save 0.5% a year in investment expenses might not be wise.
if you leave your job (or your job leaves you because your practice gets bought!), can you rollover 401k to non-deductible traditional IRA and then convert whole amount to Roth IRA without incurring taxes? Does it work like a backdoor contribution if I have no existing money in traditional IRA? Or would it be taxed anyhow?
The 401(k) money is probably tax-deferred, not non-deductible. So converting it would have a tax cost.
Graduating EM resident, who will be starting a fellowship in July where I will make 6 figures, and potentially too much to contribute to a Roth for 2015. Not married.
My primary question is what I should do in regards to my State Retirement Fund, which my residency has been making me put money in to for the last 3 years. There’s ~17k in there now.
Can I roll this directly in to a Roth IRA? At Vanguard, for instance. I already have ~18k in my Roth there. I understand I will have to pay taxes on that, but this is still probably the lowest tax bracket (even with half-year of fellow salary) I will be in for quite a while.
Or should I roll it over in to an IRA? I’m less familiar with this, as I’ve been focusing on Roth’s while in residency, and am going to be mostly focusing on repaying loans aggressively for my first few years as an attending.
Thank you for any help.
I don’t know the details of your state retirement fund, but you will likely have a tax bill if you move it directly to a Roth IRA. It may be better to leave it where it is and move it into a 401(k) when you become eligible for one. If you’re okay with the tax bill, then yes, this is a great year to do a conversion.
Similar question, different numbers than FirstNobleTruth.
I finished fellowship august 2017 and start attending job October 2017 (two months unpaid vacation in between). I have 56,000 in old my state university 403(b), all in extremely low cost vanguard index funds. The expense ratios are lower than vanguard even offers to individuals because it’s at a state “institutional rate”. I can keep them with my old employer plan, or convert to IRA and roll over to Roth IRA – but I’m torn. Starting in 2018 my income goes up :
For 2017 I will make:
38,000 fellowship + 102,750 attending = 140,750
2018 I will make:
411,000 attending = 411,000
If it’s best, I’m ok with paying a tax bill this year to convert to Roth. It makes sense to me to convert in 2017 since my income is lower this year, but am I thinking through this correctly? The down side is that by converting, my expense ratio goes up slightly even if I put it all in vanguard index funds (since I lose the “state institutional rate”).
Thanks for your thoughts!
I’d convert. I think the long-term benefit of doing so outweighs the slightly higher ERs you’d pay. It’s only $56K, so you should be able to afford the tax bill on that.
Just to make sure I get it:
Let’s say my salary for 2015 will be ~100-120k (half-residency, half-fellow w/ moonlighting, etc). I’ll roll my state retirement fund into an IRA, since I can’t roll it directly into a Roth. Then I could roll that whole sum in to a Roth, but would have to pay taxes on it? Could I also contribute to the Roth up to $5500, either directly or via Backdoor depending on my AGI?
Thank you.
You may or may not be able to transfer/rollover/convert your state retirement fund directly to a Roth IRA. The IRS will let you if the plan will. Read your plan document. However, even if you have to stop in a traditional IRA momentarily prior to converting to a Roth IRA, you can still do so. Yes, you’ll have to pay taxes on any conversion.
The Roth IRA contribution limit is totally separate. If you think you might be over the Roth IRA contribution income limit, then do it through the backdoor as a separate transaction.
So if you had $20K in your state retirement fund, wanted to convert that to a Roth IRA, and wanted to put another $5K into a Roth IRA, you could open a traditional IRA, rollover the state retirement fund into it, contribute another $5K to it, and then convert it all. If your marginal tax rate is 25%, then you would pay about $5K in taxes on the conversion (25% of $20K + 0% of $5K.)
Hope that helps.
I am resident and live with my unemployed wife (by choice) and our 2 children. She has a 401K with about 10G from her previous 30k a year job. Not sure which of the above options is best for out situation. Any suggestion?
If you can afford to convert it and pay the tax with outside funds, I’d give that serious consideration, at least during the year you graduate if you can’t afford it now.
My spouse has a large 401k from a place of previous employment and we are trying to figure out if it makes sense to convert to an IRA to allow for different investment options. There is a reasonable index fund within the current 401k and also a reasonable target date retirement fund, both with low gross expense ratios. The alternative is to just leave it as is and allow for backdoor roth IRA conversions for both myself and my spouse. Are there any other specific factors that I should be taking into account? How do I determine what makes the most financial sense going forward? Thank you.
I’d just pick the best of the two 401(k)s and use that. The alternative is to use a traditional IRA and quit doing her backdoor Roths every year. It would be less hassle to have it all in the current 401(k), but the way you describe it, it just sounds okay, not great.
I just take my ‘old’ 401k and roll it into my Traditional IRA at Vanguard. Then my money is in fewer places, and Vanguard’s low fee rock.
The problem with that is the pro-rata calculation for the backdoor Roth IRA.
My wife has a 401k with her previous company. She has 21k in it. I just graduated dental school so we are just now beginning to invest our money. The previous 401k is not great with .43 expense ratios. Should we roll it over to a traditional IRA? I don’t know much about backdoor roth IRA’s but it sounds like I shouldn’t rollover to a traditional and eliminate that option down the road.
Roll it into current 401k, leave it there, or convert it to a Roth IRA if you wish to keep doing a Backdoor Roth IRA for her.
Currently in residency and unhappy with my employer’s Roth 403(b): expenses are too high and limited options. Should I open up a Vanguard Roth IRA, and if so, would I need to do a rollover if I want to go Roth to Roth, or another means? thanks! I know there’s advantages to having separate accounts for more retirement savings, but figured as a resident not making too much, it doesn’t matter much. appreciate any insight or comments.
Yes you should do a Roth IRA. Be sure to get any match in the 403b of course. You probably can’t roll money out of your Roth 403b (or traditional 403b) until you leave residency though.
I just graduated residency. I have a Roth 403b with Fidelity from Residency that has 25k. My attending job 403b is through TransAmerica. I also already have a Roth IRA with Vanguard. Would you transfer that money to the new 403b or would you transfer it to the Roth IRA? Transferring to the Roth IRA doesn’t contribute to the max contribution per year right?
You can probably do either, but I’d put it in the Roth IRA. That will likely give you more control, better investments, and lower fees. But it does slightly reduce your asset protection and could affect access to that money between ages 55 and 59 1/2.
No, rollovers do not count toward the annual contribution limits.
I was somewhat confused with regards to the Roth 401K/403B. Spouse and I have Roth (employee match) and traditional (employer match) in our 401K/403B. Due to my fellowship we will be switching jobs. Do we have to keep our money in our previous 401K/403B for 5 years in order to avoid the earnings being converted to traditional? Or are we able to roll our Roth 401K/403B into the new plan (assuming it has a Roth option) without having to worry about losing some Roth earnings?
“employee match” doesn’t mean anything that I know of.
No, you can roll that money into a new Roth 401(k) or 403(b)/traditional 401(k) or 403(b) or even into a Roth IRA (careful with traditional IRA as it introduces pro-rata issues with a Backdoor Roth IRA) no problem. That’s not what the 5 year rule is talking about.
Dr Dahle,
My wife has a 401k that is $2000 (she didn’t work much) and the company says they are terminating the plan. I was planning on just keeping it there for decades but oh well.
I am investing in backdoor ROTH.
The only two options i see reasonable would be to cash out or converting into the ROTH i currently have.
1. Should I convert into a separate ROTH account or does that not even matter?
2. Would I pay my current tax bracket percentage on the money when i convert to ROTH? Will I also pay the 10% penalty or is that only if I cash out?
3. Are there any other options since this is a unique situation (I think?) due to the termination letter I received.
Thanks
Also can i contribute to two backdoor roth ira yearly (one for me and one for the wife) EVEN though she is unemployed and we file jointly?
The above (401 rollover) transaction will not affect my yearly max backdoor roth contribution, correct?
Yes.
Correct.
You don’t convert her 401(k) into YOUR Roth IRA. You convert it into her Roth IRA.
1. yes. hers.
2. yes. No penalty.
3. She could start a business, start an individual 401(k) and roll it in there. But come on. It’s only $2K. So you’ll only owe $6-700 in taxes on the conversion. You can afford that.
I finished my residency in June. I was able to set up a Roth 403b at my old hospital with 22k between 16k Roth contributions and the remainder pretax. Am I able to selectively roll the 16k over into my Roth IRA, and take the 6k into the new employer 403b? Does the total being 16k Roth affect my 6.5k Roth IRA contribution for this year in any way??
If I have to roll over the 22k in its entirety into the Roth IRA does that affect my Roth IRA contribution limit for the year?
Yes.
No.
N/A but no it wouldn’t rollovers and conversions don’t count toward contribution limits.
Sorry for the questions as this could be a whole podcast likely. I have a few questions regarding my wife’s 401K. We have just got to a point where we can start to invest at age 34. She Just started to contribute then her practice merged to where she has a new 401K. The old 401K had a few great options including a Transamerica account that invested in Vanguard VTSAX total stock market with an expense ratio of 0.04. She had 10 thousand dollars in that account. The new 401K is lousy and the best fund is a Transmerica type S&P 500 account with an expense ratio of 0.58 (the TA vanguard total stock account now has an expense ratio in this one of 0.79) and all other funds have an expense ratio of 0.8 to 1.2.
We made about $400K together by the end of this year, so not sure it’s worth the $3500 or so to convert this 10K fund into a Roth IRA, and I don’t want to roll over into a traditional IRA, because we do the backdoor roth. With that, I am likely going to keep this in the old 401K bc it’s easy to watch as they are both in transamerica. Does This seem reasonable?
Now for the main question, with the 401K being lousy, is it worth it to max out the tax-deferred $22,500 for a higher expense ratio S&P 500 (ER 0.58) or Vanguard VTSAX account (ER 0.79)? An expense ratio of .58 for each 22,500 costs about 130.5 per year. The only other option would be to take that money post-tax and use that for a taxable account, with long term capital gains plus the initial tax on the $22,500, which seems to be a larger expense than the ER plus smaller tax bracket when taking out in retirement? Are there other options that a person with a somewhat lousy 401K should be looking at?
You don’t need to post comments and email me. I already emailed you back on this one. Answers for those reading along at home were:
1) Yes
2) As long as the ER/fees are less than 2%, it’s probably still worth using.