Should I Rollover from a Roth 401(k) to A Roth IRA When I'm About to Retire?

[Should I Roll Over My Roth 401(k) to a Roth IRA When I’m About to Retire?] – Clear, tax-smart guidance for people close to retirement

About to retire – or recently retired – and wondering if you should move Roth 401(k) dollars into a Roth IRA? In this episode of The Perfect Retirement Plan?, Phillip Smith explains why a Roth 401(k) is great while you’re working, but why the rules at retirement can change taxes, timing, and flexibility. 

We cover the different 5-year clocks, plan withdrawal limits, pro-rata taxation on non-qualified plan distributions, the 2024 RMD update for designated Roth accounts, and the Roth IRA ordering rules that can make a withdrawal fully tax-free.

What you’ll learn
00:00 Intro – 59½ milestone, plan “gotchas”
01:00 Today’s roadmap
01:27 Why Roth 401(k) shines during accumulation
02:17 The 5-year rule & non-qualified distributions
03:12 Plan constraints, menus, costs – plus the 2024 RMD change
05:06 When keeping money in-plan still makes sense (age-55 rule, low costs, creditor protection)
05:57 Why a Roth IRA often wins in retirement
06:29 One IRA 5-year clock and the contribution → conversion → earnings ordering rules
08:23 Coordinating MAGI for Medicare IRMAA; creditor-protection caveats
09:36 Case study – $50k withdrawal: plan vs IRA tax impact
12:46 Action steps
13:55 Closing

Action step
Verify your Roth IRA’s 5-year status, request your plan’s distribution rules, and choose a path that protects tax-free flexibility.

More resources: TidepoolWealth.com and our YouTube channel @TidepoolWealth.
 #RetirementPlanning #Roth401k #RothIRA #FiveYearRule #AboutToRetire #RecentlyRetired #TaxPlanning #MedicareIRMAA

Thanks for tuning in to this episode of The Perfect Retirement Plan, and remember: it's not about having the smartest financial advisor, the most money saved, or the highest probability of retirement success. The perfect retirement plan, for you – is the one you act on.

Phillip Smith, CRPC AIF |  Financial Planner
Tidepool Wealth Strategies
450 Country Club Road, Suite 350 | Eugene, OR | 97401

____________________________________________________________________________________________
Additional Disclosures: 
The opinions contained in this material are those of the author, and not a recommendation or solicitation to buy or sell investment products. This information is from sources believed to be reliable, but Cetera Wealth Services, LLC cannot guarantee or represent that it is accurate or complete.
All investing involves risk, including the possible loss of principal. There is no assurance that any investment strategy will be successful. 

Transcript

Episode: Roth 401(k): Turning 59 ½, 5-Year Clocks, and Knowing if You Should You Rollover to a Roth IRA

[Outline]:

·        Intro

·        Roadmap

·        Why the Roth 401(k) Shines While You’re Working

·        Where a Roth 401(k) Can Bite Back After 59½

·        Good News About RMDs

·        When Keeping Dollars in the Plan Still Makes Sense

·        Why a Roth IRA Often Wins Once You’re Retired

·        Example: Timing Changes Taxes

·        Action Steps

·        Closing

(teaser) You finally hit 59½. You look at that Roth balance in your 401(k) like it’s the finish line after a long, hilly race. You’re about to retire, ready to book a trip, tap those tax‑free dollars and celebrate. But the details of your employer’s 401(k) plan say, “Hang on, slow down,” first someone needs to check the five‑year clock, and maybe the details of the plan only allow a quarterly withdrawal window, and then when they finally get around to processing your request, a paper check shows up…whenever it shows up. 

[Intro]
Hi, I’m Phillip Smith, financial planner with Tidepool Wealth Strategies, guiding people about to retire, or recently retired, toward retirement with clarity, confidence, tax‑smart income, and purpose. Welcome to The Perfect Retirement Plan?

 “Roth money is always tax‑free, right?” Mostly, yes. But the account you choose and the timing you pick can change the tax result. One small rule can make your next withdrawal fully tax‑free…or partly taxable. Today we’ll make sure you keep more of what you saved.

[Roadmap]
Here’s our plan for today. First, a quick refresher on why the Roth 401(k) shines while you’re working. Then the frictions that can pop up after 59½. We’ll cover when it still makes sense to keep dollars in the plan, why a Roth IRA often is the better choice you’re retired, and a short dollars‑and‑cents example that shows how timing changes taxes. 

We’ll wrap with clear action steps you can take today.

Let’s start with this: the reasons Why the Roth 401(k) Shines While You’re Working
The Roth 401(k) lets you contribute more than a Roth IRA, there are no income limits to contribute, payroll makes it automatic, and your employer match grows on the pre‑tax side right next to your Roth savings. There are much lower contribution limits for IRAs. For higher earners who can’t put money straight into a Roth IRA, it’s a fantastic accumulation tool.

BUT, you want to be aware of Where a Roth 401(k) Can Bite Back, Before and After 59½
First, the five‑year clock. For a Roth 401(k) distribution to be qualified, you need to be at least 59½ and your plan’s five‑year clock must be satisfied. If you started late and retire with only three years on that clock, withdrawals before year five are nonqualified. 

In a plan, nonqualified distributions are taken pro rata – part contributions and part earnings. The earnings slice is taxable. The 10% penalty is gone after 59½, but tax on earnings remains until the distribution is qualified. Early withdrawals have tax consequences, be sure to consult your tax pro.

Second, the plan controls the flow. Every 401(k) has its own rules. Some plans allow monthly payouts. Others batch requests, set high minimums, or mail paper checks. If your plan is rigid, your spending plan becomes rigid too.

Third, the menu and costs. Plans often offer a narrow shelf of target‑date funds and a handful of index or active funds. That may be fine mid‑career. In retirement, you may want a custom mix, like a quality tilt, a dividend sleeve, or short‑term reserves inside the Roth for planned withdrawals. IRAs usually open the menu from a dozen options to thousands.

Fourth, delays and blackout periods. Recordkeeper changes, settlement windows, and processing queues can slow money down. A week or two of delay can feel like forever when you’re trying to close on a property or time bills.

Fifth, estate and beneficiary logistics. Spouses usually have a clean path. Non‑spouse heirs typically face the 10‑year rule. In practice, coordinating beneficiaries and managing the paperwork is often simpler in an IRA where you control the custodian and the forms.

Here’s some recent Good News About RMDs
Since 2024, designated Roth accounts in employer plans don’t require RMDs. That old reason to roll is gone. Today, the case for a rollover is mostly about flexibility and control, not dodging RMDs.

Now let’s talk about When Keeping Dollars in the Plan Still Makes Sense
There are smart reasons to wait. If you separated from service between age 55 and 59½, the age‑55 separation rule can give you penalty‑free access from that employer plan before 59½. Some plans also offer very low‑cost institutional share classes that are hard to beat. And ERISA plans generally provide strong creditor protection. If any of those matter for you, consider a hybrid approach – keep a slice in the plan for a

season and move the rest to a Roth IRA for flexibility.

Pretty evenhanded approach to the discussion on the Roth 401(k). It is a fantastic tool for accumulation, but the important thing to remember is that is not the best option when it comes to taking cash out.

Here’s Why a Roth IRA Often Wins Once You’re Retired 

I’ll start with noting that there is one five‑year clock to rule them all. Each 401(k) has its own separate Roth clock. Roth IRAs are different. If you have any Roth IRA that’s been open for five tax years, that five‑year requirement is satisfied for every Roth IRAs, as a group and for the rest of your life. It never restarts. That can make future withdrawals simpler once you’re past 59½.

The meat of this episode, though, is the friendly ordering rules. Roth IRAs distribute contributions first, then next is any conversion dollars – stuff you converted from traditional IRA or pre-tax 401(k) money to Roth money, and then the third source of money is earnings. 

That means you can often pull what you need without touching earnings at all. And THAT means that if you’re only touching contributions initially, then the distributions are tax free, even if you’re under 59 ½ and your account has been open for just a year. Once your Roth IRA has met its five‑year clock and you’re past 59½, all the earnings are tax‑free too.

A little tangent, it’s important to note that when you do a Roth conversion, each conversion has it’s own separate clock. Work closely with your CPA and your financial advisor to keep track of this. I should probably be sure to add in that converting from a traditional IRA to a Roth IRA is a taxable event.

• In case I didn’t point this out directly already, a Roth IRA must be in place for at least five tax years, and the distribution must take place after age 59 ½ or due to death, disability, or a first time home purchase (up to a $10,000 lifetime maximum) in order for it to be a completely tax-free distribution. Depending on state law, when the distribution is still considered nonqualified, it may be subject to state taxes. 

Okay, back to additional benefits of a Roth IRA: Greater control. In a Roth IRA you choose the withdrawal schedule, you pick the investments, and you coordinate across accounts. That helps when you pair tax‑free Roth withdrawals with other moves, like managing your modified adjusted gross income to avoid Medicare IRMAA surcharges, or harvesting gains in a brokerage account during a lower‑tax-bracket year.

You know, a quick note on protection - and what I am referring to is “401(k) creditor protections.” ERISA qualified plans – in other words, your 401(k) or 403(b) – generally offer a strong defense against creditors. I use the word “protection” because if you were wanting to learn more on your own using a search engine, the term you’d search is “401(k) creditor protection” or “ERISA anti-alienation clause.” IRAs do not offer the same type of “protections” - or ‘defense against creditors.’ If there is any defense offered by an IRA, it would vary by state. If that’s a concern to you, weigh it in your decision-making process and talk with your attorney.

I’m an impact type of guy. What’s the impact when I do this versus that. So let’s bring all this together with an example that contrasts distributing Roth money from your 401(k) versus taking it from your IRA. 

The Timing Changes Taxes. Say you retire at 61 with $500,000 of Roth 401(k). First of all, congratulations on doing an amazing job. So, you started Roth contributions with your most recent employer, say, three years ago, so your plan’s five‑year clock is at year three. You withdraw $50,000 right now. Because the distribution isn’t yet considered qualified, the plan treats each dollar as part contributions and part earnings, and the earnings slice is taxable income. So, let’s say that over time you’ve contributed $200,000 of Roth money, and the rest is growth – or earnings. That means 60% of the balance is earnings. Your choices are wait, eat taxes, or rollover to a Roth IRA. 

So, you can wait 24 months if this isn’t a near-term need.  The plan clock hits five and it’s all tax-free if you’re over 59 ½. OR, you take the distribution. 60% of the distribution is taxed. That’s tax on $30,000. And if you’re under 59 ½, that means you also have the joy of the early withdrawal penalty. So, 20% mandatory Federal tax, and 10% early withdrawal penalty, and state income tax if you have one. In Oregon, that means 39% in taxes and penalties, or $11,700. So if you need $50,000, you actually have to distribute quite a bit more than that to get it. 

Or third option, let’s say you rollover $150,000 of Roth 401(k) money to a Roth IRA – and let’s just say the Roth IRA has not satisfied the 5-year clock either. Well, 60% that came over from the 401(k) is earnings, or growth. That’s $90,000 of the 150. The other $60,000 is contributions. Now, you can withdraw $50,000 and it will come from contributions first – nothing special you have to do, that’s just the required order of distribution. 

Well, since there are $60,000 of contributions in the IRA, that means 100% of the $50,000 distribution is tax free – and penalty free. And that same withdrawal can be fully tax‑free. Same dollars, money pulled from a different retirement account, vastly different tax result. A savings of almost $12,000 in taxes and penalties.

Does that example help to clarify the impact of the importance of thinking through where the distribution comes from? Hopefully you found it helpful.

Now, let’s take some action. Do this next: 

Check whether you have a Roth IRA and verify its five‑year status. If you don’t, open one and get that clock started. 

Second, request your old plan’s distribution rules in writing and circle anything that could slow you down, like quarterly limits or mailed checks. 

Third, decide on your path. Full rollover now, a hybrid for a year or two, or keep the plan temporarily if the age‑55 separation rule or creditor protections happen to apply to your situation. If you want help lining this up with taxes and Medicare, sit down with a financial advisor and a CPA. Getting the order right protects your tax‑free status and your flexibility.

[Closing] 

If this helped, subscribe to the show and share it with a friend who’s close to retirement. New episodes drop regularly, and each one is designed to help you move from knowing to doing.

Remember, it’s not about having the smartest financial advisor, the most money saved, or the highest probability of retirement success. The perfect retirement plan for you is the one you act on!

Before the standard disclosure rolls, I have  special disclosure for this episode:

Various investment accounts, such as individual retirement accounts (IRAs), carry a certain amount of asset protection in the interest of justice. Federal laws protect numerous retirement plans. Many states offer asset protection trusts that safeguard homesteads, annuities, and life insurance. There are many circumstances in which your assets can be attached or garnished by creditors, including if you file for bankruptcy, get a divorce, or are in a civil lawsuit. IRA's (traditional or Roth) have an inflation-adjusted protection cap of $1 million against bankruptcy proceedings. Protection also does not include judgments for most domestic relations lawsuits, such as child support. In such cases, state law must be consulted to determine whether any protection exists and to what degree. For a comprehensive review of your personal situation, always consult with a legal advisor.  

[DISCLOSURE] 

[Disclosure clip]

It’s disclosure time! This podcast is intended for educational purposes only and should not be used for any other purpose. The views depicted in this material should not be considered specific advice or recommendations for any individual, are not intended to be financial, tax, or legal advice and are not representative of Tidepool Wealth Strategies or Cetera Wealth Services LLC. The opinions contained in this material are those of Phillip Smith, and not a recommendation or solicitation to buy or sell investment products. This information is from sources believed to be reliable, but Cetera Wealth Services, LLC cannot guarantee or represent that it is accurate or complete.  For a comprehensive review of your personal situation, always consult with a financial, tax or legal advisor. Neither Cetera nor any of its representatives may give legal or tax advice. 

Our office address is 450 Country Club Road Suite 350 Eugene Oregon 97401. Securities offered through Cetera Wealth Services, LLC, member FINRA/S I P C. Advisory Services offered through Cetera Investment Advisers LLC, a registered investment adviser. Cetera is under separate ownership from any other named entity.

Sources:

·        IRS — Retirement topics: Designated Roth account distribution rules and pro rata treatment. 

·        IRS — Publication 590‑B: Distributions from IRAs, including Roth IRA ordering rules and five‑year rules. 

·        IRS — RMD FAQs and 2024 update confirming no RMDs from designated Roth accounts beginning in 2024. 

·        Charles Schwab — Rule of 55 overview. 

·        Fidelity and T. Rowe Price — SECURE 2.0 educational summaries for Roth features.