How to Roll Over a 401k to a Roth IRA
Converting your 401k to a Roth IRA sounds like an attractive option to withdraw earnings on a tax-free basis in the future. However, when you convert the funds, you will owe income taxes on the amount you convert. Since the converted amount will be treated as a distribution for income tax purposes by the IRS, the conversion will increase your tax bracket. In addition, the funds will have to stay in the Roth IRA for five years before distributions are tax-free.
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Instructions
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Open a Roth IRA account with an investment company or bank. Roth IRAs have a number of eligible investments, including CDs, mutual funds and annuities. Select an investment that is suitable to your risk tolerance. To convert a 401k to a Roth IRA, you must have an open Roth IRA in which to transfer the funds.
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Obtain distribution paperwork from your current 401k plan administrator and verify that your plan permits you to roll over the funds into a Roth IRA. Although this is supposed to be mandatory, as of 2010, your company may not have updated the plan document to permit a Roth conversion.
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Decide how you will pay the taxes on the converted funds. Taxpayers who convert to a Roth IRA in 2010 can spread the tax payment over two years. You may choose to pay the taxes out of other savings or withhold a portion of the 401k to pay the tax, instead of investing it in a Roth IRA.
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Tips & Warnings
Consult with a financial planner to determine if the long-term benefit of tax-free income works with your retirement plan. If you will need to take distributions within the first five years, a Roth conversion probably isn't for you.
If you have a Roth 401k, conversion is simpler and there will be no income tax due.
If your 401k plan does not permit Roth IRA conversions, you can accomplish this by opening a traditional IRA and then immediately converting the traditional IRA to a Roth IRA once the funds have been transferred.
The Internal Revenue Service may have a maximum adjusted gross income to permit a Roth conversion. This amount also includes the amount converted from your 401k.
The tax liability that results from converting a 401k to a Roth IRA can be large. Consult with an accountant to find out what the tax implications would be for your specific circumstances.
Typically, in-service 401k distributions are not eligible for Roth IRA conversions. You must have separated from service to the company to convert your 401k to a Roth IRA.
