In Today’s Podcast Episode of Smarter Money Matters with Dr. Jeff, Lou, & Anna…
We dive into one of the most common — and most expensive — transitions investors make: moving a 401(k) into an IRA.
While it seems simple on the surface, Jeff explains that this move is riddled with tripwires, tax traps, and irreversible mistakes that can cost families tens or even hundreds of thousands of dollars if done incorrectly.
Here’s what they cover:
Mistake #1: Missing Critical Deadlines – If your rollover check is made out incorrectly or you miss the 60-day window, the IRS treats it as income — triggering taxes and a 10% penalty. Once it happens, it’s nearly impossible to fix.
Mistake #2: Losing the “Rule of 55” Advantage – Rolling to an IRA too soon can eliminate your ability to access funds penalty-free if you retire or leave work between ages 55–59½. For some, this is vital bridge income.
Mistake #3: Ignoring Net Unrealized Appreciation (NUA) – Company stock inside a 401(k) may qualify for special tax treatment. Roll it blindly into an IRA and you can permanently lose the opportunity to convert future gains from ordinary income tax to lower capital gains rates.
RMD Traps After 73 – Roll assets into an IRA while still working and you may trigger required minimum distributions you could have legally deferred inside a 401(k).
The Annuity Ambush – Many rollovers are quietly steered into high-commission annuities with long lockups, steep surrender charges, and heavy ongoing fees. Once you’re in, escape can be painful.
Why DIY Rollovers Are Risky – HR departments make mistakes. Custodians make mistakes. And the IRS doesn’t forgive them. Without professional oversight, small errors can turn into big tax bills.
Jeff’s message is blunt: A 401(k) rollover is not paperwork. It is a tax event with permanent consequences. Done correctly, it can create flexibility and opportunity. Done wrong, it can quietly sabotage your entire retirement plan.
Video Chapters & Transcript:
Howdy folks. Uh, welcome once again. Today’s discussion centers on three mistakes people make when transferring their 401ks to IRA. There are pitfalls and tripwires uh all over the place. And so when folks leave a job, typically it’s not always the best solution really. There’s a lot a lot of things to look at, but they want to take their 401k with them. often uh um they they look at moving it to an IRA managed by an adviser or themselves and often you have options by the way to transfer that to your new employer if there is one and sometimes you’re better off leaving it in the existing 401k but that’s no that’s that’s grist for another podcast today we’re talking about the three mistakes that most people make when they are transferring their 401ks to IAS and the first one really uh that uh um doesn’t occur I’m sure to most of you is missing a critical deadline because what happens Anna when uh somebody transfers to an IRA and they they direct their HR person to what do they what what what are the mechanics typically and what are the sort of the pitfalls? Yeah. So you know if that check isn’t made out properly it’s not you know me written as a rollover check sometimes taxes can be taken out and you may not realize that. So, you’ve, you know, paid 10% or whatever it is to the IRS, you deposit your portion into your IRA and you you don’t get the full value of the rollover. Um, also, you know, I’ve have had clients where they just cut a check from the 401k to their name, meaning, you know, pull full balance, meaning to put it into their IRA, and they don’t do it within 60 days, and all of that counts as income for them. But plus, you know, do they avoid the 10% penalty? Exactly. They don’t. So then it penalty too. So that’s you know that’s a critical point and and you know according again this is dropped another Wall Street Journal article. If you don’t tell your uh your administrator or your HR people where to send the funds whether you know intentionally you just forget or they forget. I mean, these are not tax lawyers either. Um, that you’ll just get a check in the mail made out to you, as Anna said. And if it happens that way, which happens far too frequently, yet 60 calendar days to put that money into an IRA or into a traditional IRA or IRS will treat the the the withdrawal as taxable income, and you’ll have to pay the income. That income will stack on top of all your other earned income or whatever that year, plus you’ll have that 10% penalty. And I’m telling you, it is nearly impossible to get that back once it happens. This is a real real big danger. Um, so, and not only that, you will also probably get your check with the taxes deducted. So, if you took $100,000 out, and I think that the the uh the the typical withholding is 20%, right? You’ll get $800,000. If you take $100,000 out, you’ll get $80,000. Um, but still, then you’re still going to have to come up with the tax money, I think, if it’s additional, right? Yes. Otherwise, you’ll get penalized on that. Exactly. Yeah. Anything that you care to add to that, professor? It’s it’s it’s a costly mistake. There’s some costly mistake that could mistakes that we definitely have to, you know, be cognizant of, pay attention to, otherwise you can end up with a with a very high tax bill. So, that’s, you know, be careful. All right. And that’s one of the reasons it typ um the IRA rollovers for our clients and for new clients you know we’re very very careful to well describe the procedure how you know what what’s you know what do you do when you get one of these? Yeah, I mean, so I always call with the client to the 401k provider. Um, you know, they have to be authenticated, give permission to speak to me, and then basically I’m making sure that the checks are made out properly, proper account numbers, you know, titled properly, um, when they review that information, making sure it’s correct. Uh that way we know when the checks are coming so they don’t just get kind of lost in the mail and we know they’re made out properly and that they’re indicated for the IRS that it’s a rollover. Yeah, you got to check every box and then things go smooth as silk. And always and always follow up. Make sure you always follow up because you know sometimes they you know just kind of get lost in the shuffle and and uh you know these checks if you if you lose them lose the check and 60 days goes by um you’re you’re you know you’re on on the hook for the for the taxes on that amount. even on a direct rollover. Well, if it’s if it doesn’t go well, no, but if it the check would get cancelled. Cut that part out. So, let’s let’s go uh let’s go back to uh um to pick it up. So, you really you want to Great point, Lou. You really want to follow up um because sometimes the HR department may screw up. Uh they may make it out just to your name. Yeah. uh and instead of the transfer e institution where it’s supposed to go and if that happens then it’d be taxable to you and g whiz if you don’t get the check in the mail you’re going to forget about it probably assume it went off properly if you’re not working with an adviser like us that’s on top of it um and then you know once that 61st day comes you’re screwed you get that tax bill in the mail next thing you know you’re liable for some taxes yeah once that check is cut it generates a 1099 R to IRS automatically you know so it’s as if somebody’s telling IRS or you’re going to tell them, they’re they’re looking for their money right away and and if if they haven’t withheld the funds even and they screw up the name, it becomes the the disaster just compounds. So, make sure that you know you you you carefully check the box. The second big mistake that people frequently make is missing out on the so-called rule of 55. Who would like to elucidate us on the rule of 55? So, do you want to I can I So, if if your funds are within a, you know, retirement plan like a 401k or 403b, um, you have some extra options. If you did want to retire early and take distributions before 59 and a half, um, if you roll the funds into an IRA, you’re going to lose that option essentially. And what it does is you can take those withdrawals, they’re still taxed, which is fine, but you don’t have that 10% penalty. Yeah. And some people use that kind of as bridge financing. So if I’m, you know, terminating um and expecting another job, but I’m not going to get a paycheck for two or three months to be able to take money out of the 401k and avoid the 10% penalty. You got to pay taxes just like your paycheck. But to to to be able to use those funds to live until a new paycheck kicks in. So, you know, with the rule of 55, as the provision is known, the IRS allows you to make withdrawals from your 401k or 403b without paying the usual 10% withdrawal penalty. Now, while you still would pay taxes, as Anna had mentioned earlier, when you withdraw, you’d be still avoid the 10%. So, it kind of gives you bridge financing until your next paycheck uh kicks in. And the third big mistake uh that folks make with IAS is uh um when you uh invest in company stock inside of a 401k and then you leave um you really have a choice, you know, and uh and which is a net unrealized appreciation election. And this is kind of arcane. Either one of you guys familiar enough with us to talk about it? Yeah. So basically this is what you know this is what the deal is. If I take leave that stock and I transfer it to an IRA, another 401k, it’ll continue hopefully to appreciate, right? Assume that it does. But then what’s happening? What’s the tax treatment of everything in a traditional 401k or IRA? What’s the tax treatment? Deferred. Yeah. But what t what what’s kind of a tax rate? Income tax rates. Well, it’s it’s ordinary income, right? Your highest bracket. So what net unreal as appreciation election does is let you take the stock out and pay tax on it right now and then henceforth capital gains rates apply. So, if you’re in a 40% brack and I’ve got, you know, half a million dollars in in in company stock and I take it out and pay the tax, then what’s left? Well, if as if it continues to appreciate, I now only have the capital gains rate at 20% to pay instead of presumably 40%. And that’s something that you’re going to want to model pretty well to make sure based on projected brackets and so forth. But it’s really it’s an arcane point as you notice that you know even our super CFPs this is not something that we come across all the time but in the depending on person and and the fact pattern it could be worth an awful lot of money. Um any concluding remarks any other mistakes uh super CFIPS that you see uh folks typically make when transferring their IAS to to 401ks IAS besides buying annuities? Um, one that is an has come up like once or twice for me just in my career is a client who maybe is retired working part-time and is of qualifies for their employer plan and um is of RMD age and what they what I’ve seen them do is they just kind of blake like they roll an old employer plan into an IRA so they’re forced to take their RMDs out of that where if they’d been working with a professional you could have suggested to put it into their existing ing 401k and not have to take RMDs. So, it’s you sometimes, you know, just talk to a professional and make sure knows what they’re doing. I don’t I mean, tax law is incredibly, you know, complex and and broad and just to make sure that, you know, that that we’re clear about what you were saying. So, I leave, you know, ABC company, I’ve got a 401k and I’m 72 years old, right? If I move that money into an IRA, it becomes immediately subject to required minimum distributions. Got to pull so much out, pay the tax on it. If I leave it in a 401k, even a previous employer, it has to be your current employer. But you could roll. So I can roll it to uh my new employer and many of them will permit that. And then the RMDs are not required. So long as I’m employed and the money is in a 401k or actual qualified plan, not an IRA, the RMD clock has to start ticking. No. Absolutely. And that that goes, you know, even if you’re a business owner, if you’re able to have a, you know, individual so solo 401k, same rules apply. You you can defer your um, you know, require minimum distributions by keeping that that money in the 401k as well by setting up your own plan for the company. Correct. Absolutely. Any other besid You can even use the annuity card if you want. Any other, you know, typical mistakes that you’ve seen in your practice? Well, yeah. I’ve se, you know, speaking of IRA, I’ve also seen the, you know, a lot of people make the m, you know, make the mistake that uh or get sold on an annuity where where they put their, you know, roll their money into 401k or 403b funds into an annuity, lock it in in there, and they kind of get spoonfed the the amounts and um, you know, and also get whacked, you know, majorly on commissions and frequently on fees, too, which are very difficult spot. That’s really typical in a lot of workplaces where you’ve got retirement experts, you know, that uh that kind of work the the large group and they say, “Well, gee whiz, I’m fully trained on, you know, the federal retirement system and so forth.” And uh but they’re really looking to sell annuities, uh which can be extremely expensive. And once you’re in, you know, you ain’t getting out in most cases without paying a massive surrender charge. Um but that probably will probably run a little bit overtime for this. So, we could gush on all afternoon, but we’ll have to save for next time. Until then, thank you so much for watching uh with my super CFIPs. This is your wealth, Dr. Jeff Kamarta. Thanks so much for watching.
