How do I Convert a 401k to a Roth IRA?

Felicia Dye

If you want to convert your 401k to a Roth IRA, contact the administrator of your current plan and inform her of your decision. You need to open the Roth IRA account before you attempt to convert the funds. Make sure the funds currently in your 401k plan are transferred directly to the new account. To allow the funds to be distributed to you can be costly and problematic.

Information about 401k plans.
Information about 401k plans.

There is a reason that you may have heard that you could not roll over a 401k to a Roth IRA. At one time, this was not allowed. The rules changed in 2008. Now, 401k retirement funds can be converted directly.

Converting a 401k to a Roth IRA requires some consideration. For example, you need to know that if the funds that are converted would be taxable, then they must be reported as income. This means that although you can convert your 401k to a Roth IRA, you need to be ready for the tax bill. You will not have to pay all of it in the same year that you convert the funds. The tax liability can be spread over a three-year period.

Also, you need to make sure you are not planning to withdraw the 401k funds that you convert into the Roth IRA for at least five years. Otherwise, you will be liable for a penalty. Once you understand the basics and you make a firm decision, you should go ahead and open a Roth IRA. Then, let the administrator of your current plan know that you plan to convert the funds.

When you notify the administrator that you no longer want to participate in the 401k program, she may send you a check. If this happens realize that 20 percent of your money has likely been deducted. You should not opt to receive your retirement funds this way. The best option is to have the funds sent directly from the 401k to the Roth IRA.

Do not fret if you receive a check, however. Send it back and tell the plan administrator where to forward the funds and the 20 percent deduction should be returned. If you receive a check and for some reason you decide to keep it, you only have 60 days to deposit it into a Roth IRA. If you are willing to pay, a lot of the hassle involved in converting a 401k to a Roth IRA can be avoided. There are services available especially for this purpose.

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