Here’s What Happens When You Convert a Roth 401(k) to a Roth IRA

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You may have your reasons for moving a Roth 401(k) into a Roth IRA. Read on to see what that means from a tax perspective. 

The sooner you’re able to start saving for retirement, the better. You may be tempted to save in your employer’s 401(k) plan if that option is available to you. That’s because 401(k)s commonly come with employer matches that equal free money for your retirement.

But there may come a point when you decide you don’t want to leave your retirement savings in your 401(k). You may be interested in moving that money over to a Roth IRA.

In some cases, moving funds from a 401(k) to a Roth IRA could have tax implications. But when you’re moving money from a Roth 401(k) to a Roth IRA, you won’t have to pay taxes when doing that transfer.

When it pays to move over to a Roth IRA

Any time you leave a job, whether willingly or not, it’s a good idea to roll your old 401(k) plan into a new plan — either a 401(k) at a new job or an IRA. Capitalize reports that there are more than 29 million left-behind or forgotten 401(k)s, so you don’t want to run the risk of forgoing money you’re entitled to for your retirement.

But even if you’re not leaving a job, you might just plain want to move your money out of a 401(k) and into an IRA. IRAs commonly offer a wider range of investment options, since they allow you to buy individual stocks and 401(k)s generally do not. And you may find that your fees are lower with an IRA.

If you roll funds from a traditional 401(k) into a Roth IRA, you’re going to have to pay taxes on that conversion. That’s because traditional 401(k) are funded with pre-tax dollars, whereas Roth IRAs are funded with after-tax dollars.

But let’s say your 401(k) is of the Roth variety and you want to switch over to a Roth IRA. In that case, there’s no need to worry about a tax bill, because you never got a tax break on your Roth 401(k) contributions. So the IRS would have no reason to tax you simply because you’re switching from one Roth account to another.

Should you keep your retirement savings in a Roth account?

Whether it’s an IRA or a 401(k), the primary drawback of a Roth retirement plan is that you don’t get a tax break on the money you contribute. But on the flipside, you get to enjoy tax-free investment gains in your account and tax-free withdrawals during retirement.

You also don’t have to take required minimum distributions in a Roth account. This is currently the case for Roth IRAs, and it will be for Roth 401(k)s starting in 2024. Not having to worry about RMDs gives you added flexibility with your money.

With a traditional IRA or 401(k), you eventually pay taxes on your investment gains, and your withdrawals are taxable. That could be a huge burden during your senior years. So if you’re able to make retirement plan contributions without receiving an immediate tax break, then a Roth savings plan could be a good bet.

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