Changing jobs often raises the question: What should happen to the money sitting in a former employer's 401(k)? The decision matters, because how you move those funds can shape your tax bill for years. Explore the tax mechanics of a 401(k) rollover so you can ask better questions before acting.
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This content is for informational purposes only and isn’t tax advice. Crypto.com doesn’t provide tax advice. Tax rules can vary based on your circumstances, so consider consulting a qualified tax professional about your specific situation.
A 401(k) rollover means moving retirement funds from a former employer's 401(k) plan into another eligible account, such as an individual retirement account (IRA) or a new employer's plan. The goal is to keep those funds within a tax-advantaged structure rather than cashing out.
When you leave an employer, a rollover isn’t your only option. You have four broad choices, each with different tax outcomes:
A useful distinction underpins all of this: Moving money between accounts with the same tax treatment (e.g., pre-tax to pre-tax) usually carries no immediate tax. Changing the tax treatment (e.g., pre-tax to Roth IRA) can create a taxable event. Keep that difference in mind, because it drives nearly every tax consequence discussed below.
There are two ways to move 401(k) funds – a direct and an indirect rollover – and the mechanics decide whether taxes come into play right away. Remember, a rollover is only one option for an old 401(k).
A direct rollover sends your money straight from the 401(k) custodian to the receiving account. You never take possession of the funds. When a distribution is paid directly to another eligible retirement plan as a direct rollover, the payer doesn’t withhold federal income tax.
An indirect rollover works differently. The plan administrator issues a payment to you and you are then responsible for redepositing it into a new account or plan within 60 calendar days. When a distribution is paid directly to you, the payer must withhold 20% for federal income tax, even if you intend to roll the funds over at a later stage.
To roll over the full amount and avoid tax on the withheld portion, you need to replace that withheld 20% from your own pocket when you redeposit the funds. The withheld money is sent to the IRS, not to you, so covering it yourself keeps the entire balance inside the tax-advantaged account.
The withheld amount counts as federal tax already paid when you file your return, so you may get it back as part of your refund.
Direct rollover | Indirect rollover | |
How funds move | Custodian to custodian | Paid to you, then redeposited |
Federal withholding | None | 20% on the taxable portion |
Deadline to complete | No 60-day deadline | 60 calendar days |
Out-of-pocket risk | Low | Must replace the withheld 20% to avoid tax on it |
The tax result of a rollover depends heavily on the source account and the destination account. Here's how the common combinations behave.
Moving pre-tax 401(k) funds into a Traditional IRA preserves tax-deferred status with no immediate federal income tax when completed correctly. You keep deferring tax until you take distributions later.
This is a conversion and it changes the tax character of the money. Because pre-tax dollars have never been taxed, moving them into a Roth IRA creates taxable income in the year of the conversion. The specifics depend on your circumstances, so this route deserves careful planning.
Here you’re keeping the same after-tax character. A direct rollover from a Roth 401(k) to a Roth IRA isn't taxable. What changes is the clock for later withdrawals. Earnings in a Roth IRA come out tax-free only after the account meets a five-year holding period, and that period starts with your first Roth IRA contribution, not your years in the Roth 401(k).
Some plans allow non-Roth after-tax contributions. When you roll these over, IRS rules let you send the after-tax contributions to a Roth IRA tax-free. The earnings on them haven't been taxed, though, so they're taxable if they go to a Roth IRA too. You can avoid that by sending the earnings to a Traditional IRA in the same rollover. Check with your plan on how it splits the payment.
When you move pre-tax dollars into a Roth IRA, that money has never been taxed, so the conversion produces taxable income. A truly tax-free conversion applies only to after-tax amounts that have no untaxed earnings attached.
There’s no way to convert previously untaxed money without some tax coming due. That said, there are strategies you can use to manage the tax impact (but not eliminate it):
Note that under current federal rules, a Roth conversion can’t be undone.
Rollovers and conversions generate paperwork and knowing which form does what can make filing less stressful.
Form 1099-R reports distributions from retirement plans, IRAs, annuities and similar accounts, including 401(k) rollovers. It’s issued by the plan or custodian making the distribution.
The form includes a distribution code that identifies how the payment was handled. With a direct rollover, federal income tax isn’t withheld. A direct rollover is usually marked with code G in Box 7. An indirect rollover is reported as a regular distribution, typically code 1 if you're under 59½ or code 7 if you're older, so check the form against your rollover records.
Form 5498 is issued by the receiving IRA custodian and reports contributions made to the account, including rollover contributions. It’s for informational purposes and is often issued later than other tax forms, so you may receive it after you file your tax return.
Form 1040 is where the distribution is reported on your individual federal tax return. The gross distribution and taxable amount are reported separately: on lines 5a and 5b for a 401(k), or lines 4a and 4b for an IRA.
For a properly completed direct rollover, the taxable amount is zero and the IRS instructions ask you to write ‘Rollover’ next to the taxable-amount line. Because form lines and filing instructions can change from year to year, check the current IRS instructions when preparing your return.
Crypto.com IRAs are available to eligible US users and can hold stocks, ETFs and digital assets within tax-advantaged retirement accounts, all accessible through one app. Both Traditional and Roth IRAs are available, plus eligible former-employer 401(k) funds can be rolled over through a USD transfer.
Eligible contributions, transfers and rollovers may also qualify for a Crypto IRA cash match* of up to 2% on transfers and rollovers, depending on your Level Up tier. If you withdraw or transfer funds out within four years, a fee may apply if your remaining balance falls below your deposits plus the match.
* Eligible contributions, transfers and rollovers may qualify for a Crypto IRA match, paid in US dollars. Match rates vary by funding method and Level Up tier. Rewards are subject to a four-year holding period and program terms. Rewards aren’t guaranteed and may change.
Stocks and ETFs are held in an IRA with the broker-dealer Foris Capital US LLC, while cryptocurrency is held in a separate IRA with Foris DAX Trust Company, LLC, even though both are accessible through the Crypto.com App.
Cryptocurrency carries risk, including possible loss of principal. Holding crypto in an IRA doesn't reduce its market risk. Fees, available investments and transfer rules can vary, so review the applicable account terms before starting a rollover.
Moving pre-tax 401(k) funds into a Roth IRA is treated as a Roth conversion, so the converted amount is included in your taxable income for that year. The exact tax impact depends on your circumstances, including your other income and deductions, so consider speaking with a qualified tax professional before converting.
A Roth conversion is included in your taxable income for the year in which it occurs. Because the conversion can increase your tax bill, it may be worth planning for the additional liability before filing season.
Converting pre-tax 401(k) funds increases your taxable income for the year. That may cause part of your income to fall into a higher marginal tax bracket. Some people spread conversions over multiple tax years to manage the amount of taxable income recognized at once, though the effect depends on individual circumstances.
A rollover into a Roth IRA can be taxable if the funds being moved haven’t already been taxed. By contrast, moving pre-tax 401(k) funds into a Traditional IRA preserves their tax-deferred status and doesn’t create immediate federal income tax when completed correctly.
No, Roth conversions completed after January 1, 2018, can’t be reversed through recharacterization under current federal rules. This restriction applies to conversions. Regular Roth IRA contributions follow separate recharacterization rules.
An indirect rollover must be completed within 60 days of receiving the distribution. If you miss the deadline, the amount not rolled over may be treated as taxable income and additional tax may apply depending on your circumstances.
Certain exceptions or relief may be available, so consider professional tax guidance if you miss or are close to missing the deadline.
A properly completed direct rollover isn’t treated as a taxable withdrawal because the funds move directly between eligible retirement accounts rather than being paid to you. As a result, the 10% additional tax on early distributions doesn’t apply to the rollover itself.
This is informational content sponsored by Crypto.com and should not be considered as tax or investment advice.
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