In the majority of cases, direct rollovers and transfers make the most sense when moving money between retirement accounts. It's all about shielding your money from income taxes and early withdrawal penalties. With a trustee-to-trustee transfer or a direct rollover of 401(k) funds, the IRS can't touch your retirement money. But with an indirect rollover, there is much more potential for making a mistake that could cost you thousands of dollars in income tax plus a 10 percent early withdrawal penalty.
But no single investment strategy is right for everyone. Some investors might like the idea of getting their hands on a large chunk of cash, even if it's only for 60 days. Maybe you have an exciting short-term investment opportunity with the potential for large returns. If you choose the indirect rollover option, your 401(k) administrator will cut you a check with a promise that you'll re-invest the full amount in a new IRA in 60 days or less. In the mean time, you are free to use that money as you please. The risk, of course, is that you could lose the money. If you can't come up with the full amount in 60 days, you'll owe income tax plus penalties.
Another option is to do nothing. No rollover, no transfer, just let the money stay in your old 401(k). If you have $5,000 or more in the account, you usually don't have to contact the administrator. But if you have less than $5,000, some 401(k) plans automatically liquidate the funds, so you have to act quickly to secure them [source: Fidelity].
What are the advantages of leaving your money in a 401(k)? Large 401(k) plans negotiate competitively priced investment options that you might not get with an IRA. Or you anticipate getting a job at another corporation soon and decide to leave it there until you can transfer it. Older workers have another reason. If you lose a job at 55 or older, you can make penalty-free withdrawals from a 401(k) even before age 59½. You can't do that with an IRA. However, you can't add any further money to the 401(k) once you stop working at the company [source: Fidelity].
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