A direct rollover costs nothing and takes a phone call. An indirect one hands you a cheque, a 60-day clock and a 20% hole to fill.
Four options, and one of them is a mistake
When you leave an employer, the money in their plan is yours, but it cannot stay unattended forever. You can:
- Leave it in the old plan.
- Roll it into your new employer's plan.
- Roll it into an IRA.
- Cash it out.
The fourth is almost always the expensive one, and a distressing share of people choose it — particularly with smaller balances, which are precisely the ones with the most time left to grow.
Why cashing out costs so much more than it looks
Take a distribution before 59½ and you generally owe income tax on the whole amount plus a 10% early withdrawal penalty. Your plan is also required to withhold 20% for federal tax up front, so the cheque is visibly smaller than the balance before you have even filed.
But the real cost is the one that does not appear on any statement: the decades that money would have compounded. A modest balance cashed out in your twenties is not a small amount of money — it is a large amount of money in your sixties.
Rolling over: direct, not indirect
This detail matters more than any other in this article.
A direct rollover moves money institution to institution. You never touch it, nothing is withheld, and nothing is reportable as income. Ask for a "direct rollover" or "trustee-to-trustee transfer" by name.
An indirect rollover sends the cheque to you. You then have 60 days to deposit it into the new account — and your old plan will have withheld 20%, which you must make up from your own pocket to roll the full amount. Miss the window or fail to replace the withheld portion and the shortfall becomes a taxable distribution, penalty included.
There is no advantage to the indirect route. Ask for a direct rollover and the trap does not exist.
If you had Roth contributions in the old plan, they must go to a Roth IRA or the Roth side of the new plan. Mixing after-tax Roth money into a pre-tax traditional account creates a mess that is tedious to unwind. Check what type each dollar is before initiating anything.
Old plan, new plan or IRA?
Leaving it is fine if the plan has excellent low-cost funds — some large employers negotiate share classes you cannot access individually. The risk is administrative: forgotten accounts, stale addresses, and no easy way to keep track after several jobs.
The new plan keeps everything in one place and preserves a feature worth knowing about: money in an employer plan can generally be accessed penalty-free if you leave that job in or after the year you turn 55, which an IRA does not allow until 59½.
An IRA gives you the widest investment choice and usually the lowest costs, because you are no longer limited to a menu. The trade-off, beyond the age-55 rule, is that a large pre-tax IRA balance complicates a backdoor Roth contribution later — worth knowing if that is relevant to you.
Before you move anything
- Check vesting. Employer contributions may not be fully yours yet, and leaving days before a vesting date is an expensive way to save a week.
- Note the fees on both sides. Compare expense ratios and any account maintenance charge.
- Check for company stock. Appreciated employer stock can qualify for special tax treatment that a routine rollover destroys. This one is worth a conversation with a professional before acting.
- Reinvest at the other end. Rolled money frequently lands in cash and sits there. Confirm it is actually invested once it arrives.
This is educational content, not tax advice. Plan rules vary, and anything involving company stock or unusual balances deserves professional input.