Ways to Move Money In and Out of a Retirement Account

Written By Christopher Price

Retirement accounts are a vital tool in building financial security for your future, providing important tax advantages to help you grow your savings. While many people are familiar with the idea of contributing to these accounts, the rules for moving money into and out of them can be confusing. Whether you’re contributing to your retirement plan, transferring funds, rolling over assets, or recharacterizing your contributions, each method comes with specific rules and tax implications. Let’s explore the four key ways to move money in and out of retirement accounts.

What is a Retirement Account?

A retirement account is a financial account specifically designed to help you save for retirement, offering tax benefits to encourage long-term saving. The most common types of retirement accounts include:

Traditional IRAs
401(k) Plans
Roth IRAs

Each type of account has its own rules regarding contributions, transfers, withdrawals, and taxes. Understanding these rules is crucial to making informed decisions about how to move money in and out of your retirement accounts.

1. Contributions: Putting Money Into Your Retirement Account

Contributions are the most basic way to move money into your retirement account. By contributing, you set aside a portion of your income to grow tax-deferred (or tax-free in the case of Roth accounts) for use in retirement.

Contribution Limits and Guidelines (2024)

The IRS sets annual contribution limits for different types of retirement accounts. For 2024, these limits are as follows:

Traditional IRA: You can contribute up to $7,000 per year, with an additional $1,000 allowed for catch-up contributions if you are 50 or older, for a total of $8,000. While there is no income limit for contributing to a Traditional IRA, the tax deductibility of your contributions may be limited based on your income and whether you have a retirement plan at work. For example, if your Modified Adjusted Gross Income (MAGI) exceeds $89,000 (single filers) and you have access to a workplace retirement plan, your Traditional IRA contributions may not be tax-deductible.
401(k): The contribution limit for a 401(k) in 2024 is $23,000, with an additional $7,500 in catch-up contributions allowed for those aged 50 and over. Contributions to a 401(k) are typically made pre-tax, reducing your taxable income for the year. Many employers also offer matching contributions, which can significantly boost your retirement savings. Some plans allow for after-tax contributions, which could enable you to contribute over $66,000 in total, depending on the terms of your plan.
Roth IRA: Contributions to a Roth IRA are made with after-tax dollars, meaning they do not reduce your taxable income, but qualified withdrawals in retirement are tax-free. The contribution limit for Roth IRAs in 2024 is also $7,000, with a $1,000 catch-up contribution for those over 50. However, there are income limits for Roth IRA contributions: If your MAGI is above $161,000 (for single filers), you are not eligible to contribute to a Roth IRA.

Timing and Deadline for Contributions

You can make contributions to your IRA (either Traditional or Roth) for a given year up until the tax filing deadline of the following year, which is usually April 15th. This gives you time to assess your financial situation and decide how much to contribute before filing your taxes.

2. Transfers: Moving Funds Between Like-to-Like Retirement Accounts

A transfer refers to moving money between similar types of retirement accounts without triggering taxes or penalties. It’s important to note that transfers apply only to “like-to-like” accounts, meaning you can move funds from one IRA to another IRA of the same type, or from one Roth IRA to another Roth IRA.

What Qualifies as a Transfer?

Transfers are often used when you want to move your retirement funds from one financial institution to another but keep the same type of account. Examples include:

Traditional IRA to Traditional IRA: You can move funds from a Traditional IRA held with one custodian to another Traditional IRA at a different institution. This kind of transfer allows you to change where your money is held without facing taxes or penalties.
Roth IRA to Roth IRA: If you have a Roth IRA and want to switch to a different financial institution offering better investment options, you can transfer your funds from one Roth IRA to another Roth IRA.

However, a transfer does not apply when moving between different types of accounts. For example, moving money from a Traditional IRA to a Roth IRA is not a transfer—it’s considered a conversion and is subject to different rules, including potential taxes.

How Transfers Work

Transfers are typically executed as trustee-to-trustee transfers, where the financial institution holding your account sends the funds directly to the new institution. Because the money never passes through your hands, the IRS does not consider this a taxable event. This process can usually be done an unlimited number of times, as long as the transfer is between like accounts.

3. Rollovers: Moving Funds from an Employer-Sponsored Plan to an IRA

A rollover allows you to move funds from an employer-sponsored retirement plan, such as a 401(k), to an individual retirement account (IRA). This is commonly done when someone changes jobs or retires and wants to consolidate their retirement savings for easier management and broader investment options.

How Rollovers Work

When you leave an employer, you may want to move the money from your 401(k) or another employer-sponsored plan into an IRA. This allows you to consolidate your retirement savings and often provides a wider range of investment choices than what is available in a 401(k) plan.

Direct vs. Indirect Rollovers

There are two types of rollovers:

Direct Rollover: This is the most common and preferred method. In a direct rollover, the money is transferred directly from your 401(k) or employer-sponsored plan into an IRA without passing through your hands. Because the funds move directly from one account to another, there are no taxes withheld, and the rollover is tax-free.
Indirect Rollover: In an indirect rollover, the money is distributed to you, and you have 60 days to deposit it into an IRA. If you don’t complete the rollover within this 60-day period, the IRS will treat the distribution as taxable income, and you may also face a 10% early withdrawal penalty if you are under age 59½. Additionally, 20% of the distribution is typically withheld for taxes, complicating the process.

When to Use a Rollover

Rollovers are particularly useful in the following scenarios:

Changing Jobs: When you change jobs, you can roll over your 401(k) from your old employer into an IRA, allowing you to maintain control over your retirement savings.
Retirement: Upon retirement, rolling over your 401(k) into an IRA can give you more investment flexibility and simplify managing your retirement assets.

By rolling over your 401(k) into an IRA, you can consolidate your retirement savings and gain access to a broader range of investment options, including stocks, bonds, mutual funds, and more.

4. Recharacterizations: Changing the Tax Treatment of Your Contributions

A recharacterization allows you to change the tax treatment of a contribution. This process is most commonly used to convert a Traditional IRA contribution into a Roth IRA contribution, or vice versa.

Why Recharacterize?

There are several reasons why you might want to recharacterize a contribution:

Maximizing Tax Benefits: If you originally contributed to a Traditional IRA but later realized that a Roth IRA would offer better long-term tax advantages, recharacterizing the contribution allows you to switch the tax treatment.
Income Limits: If you made contributions to a Roth IRA but later discovered that your income exceeds the eligibility threshold, recharacterizing those contributions to a Traditional IRA helps you avoid penalties.

How Recharacterizations Work

To recharacterize, you must move the contribution and any associated earnings from one type of retirement account to another. For instance, you can recharacterize a Roth IRA contribution into a Traditional IRA contribution. This must be completed by the tax filing deadline, including extensions, for the year in which the contribution was made.

Restrictions on Recharacterizations

Since the Tax Cuts and Jobs Act of 2017, one important limitation is that you can no longer recharacterize Roth IRA conversions. Once you convert a Traditional IRA to a Roth IRA, the conversion is permanent, and you cannot undo it.

Moving Money Out of a Retirement Account: Distributions and Withdrawals

While the focus of this article has been on moving money into retirement accounts, it’s also important to understand how to take money out when the time comes.

Required Minimum Distributions (RMDs)

For Traditional IRAs and 401(k)s, once you reach age 73 (as of 2024), you are required to take Required Minimum Distributions (RMDs) each year. These distributions are subject to income tax, and failing to take them can result in significant penalties—up to 50% of the required amount that was not withdrawn.

Roth IRAs, on the other hand, do not have RMDs during the account holder’s lifetime, making them a popular option for those looking to pass assets to heirs.

Early Withdrawals and Penalties

Withdrawing money from a Traditional IRA or 401(k) before the age of 59½ generally results in a 10% early withdrawal penalty on top of the income taxes due on the distribution. However, there are exceptions to this penalty, including:

Medical Expenses: Withdrawals to cover certain unreimbursed medical expenses can avoid the penalty.
First-Time Home Purchase: You can withdraw up to $10,000 from your IRA penalty-free to buy, build, or rebuild a first home.
Education Costs: Some withdrawals for qualified higher education expenses are exempt from the early withdrawal penalty.
Substantially Equal Periodic Payments (SEPP): You can avoid the penalty by taking a series of substantially equal payments based on your life expectancy, although this locks you into a withdrawal plan.

For Roth IRAs, the rules are more flexible. Contributions to a Roth IRA can be withdrawn at any time, tax-free and penalty-free, since they were made with after-tax dollars. However, any earnings on those contributions are subject to taxes and penalties if withdrawn before age 59½ and before the account has been open for at least five years. This five-year rule is crucial in determining whether the earnings qualify for tax-free withdrawal.

Conclusion

Understanding how to move money in and out of your retirement accounts is essential to maximizing the tax advantages and ensuring that your retirement savings grow efficiently. From contributing funds to transferring between like accounts, rolling over employer-sponsored plans into IRAs, and recharacterizing contributions, each method has specific rules and tax implications. Additionally, knowing the proper ways to take distributions and avoid penalties is equally important for managing your retirement nest egg as you transition into retirement.

By following the guidelines and staying informed about the latest tax laws, you can confidently manage your retirement savings and make the most of the opportunities available within these tax-advantaged accounts.

Securities and investment advisory services offered through qualified registered representatives of MML Investors Services, LLC. Member SIPC. www.SIPC.org 1000 Corporate Drive, Floor 7 Fort Lauderdale, FL 33334 Telephone # (954) 938-8800

CRN202709-7448444