What Are Forced Rollovers?
A forced rollover is the involuntary conversion of your previous employer-sponsored retirement plan into an IRA of your former employer’s choosing. The major difference between forced rollovers and regular rollovers comes down to choice: as the name indicates, you don’t get to choose if, how, or when a forced rollover happens. That’s up to your previous employer.
A forced rollover may happen if:
- You leave a job and don’t provide instruction as to what you’re doing with your savings
- You have a balance of less than $5,000 in your 401(k) or other employer-sponsored plan
- You’ve contributed less than $5,000 to the plan, regardless of the total account balance
- Your former employer and/or your former plan administrator is acquired or ceases operations
- You leave your plan dormant for a significant period of time (i.e., years)
Why Do Forced Rollovers Happen?
Forced rollovers generally happen because employees leave a job and forget about their former employer’s retirement savings plan. This can happen if the employee only had a small amount of savings, or if the employee is simply negligent about moving their 401(k) plan to another provider.
Thankfully, the IRS designates most rollovers via direct transfer (including forced rollovers) as eligible for tax-free treatment. This assumes the tax status of the new IRA you have matches the tax status of your old 401(k) plan (i.e., a tax-deferred 401(k) moving to a tax-deferred IRA).
The Department of Labor, or DOL, mandates that forced rollovers be invested into conservatively managed funds or otherwise appropriate securities. Unfortunately, if you’ve not paid attention to an account that’s been rolled over for some time, it’s possible that the accumulated fees inside the account might have eaten up any interest you’ve earned.
Frequently, 401(k) plan changes or employer bankruptcy can cause forced rollovers. These are things over which you have no control, so you might find one day that you have a new IRA provider — even if you’ve done nothing to effect any sort of rollover.
Reasons Why Forced Rollovers Happen
The most common reasons for forced rollovers include:
- You don’t provide instruction as to what you’re doing with your savings after you part ways with your employer
- You have a balance of less than $5,000 in your retirement account
- You’ve contributed less than $5,000 to the plan, regardless of the total account balance
- Your former employer and/or your former plan administrator is acquired or ceases operations
- You leave your plan dormant for a significant period of time (i.e., years)
Any of these situations could result in a forced rollover of your former employer’s plan. If any one of these scenarios does happen to you, you won’t have a ton of control as to where your IRA is headed.
There is some good news, though: if you discover that your account was involuntarily rolled over, you can take steps to move it to a provider of your choice.
Explanation of IRS Rules and Regulations
Forced rollovers frequently happen when 401(k) accounts have balances of less than $5,000. If the balance of any given 401(k) account is greater than $5,000, the account can’t be moved out or rolled over without the plan participant’s consent.
Your former employer (or their plan administrator) must make reasonable efforts to locate you and communicate with you before rolling over your account to an IRA. If they can’t seem to make contact with you, they’ll roll your account over to an IRA — and they won’t need your approval to do so.
Finally, the funds rolled over must be invested conservatively (like in money market mutual funds) and the new IRA plan provider is only allowed to charge a reasonable fee for its services. Again, you won’t have much in the way of investment options if your 401(k) plan was forcibly rolled over.
How Plan Changes or Employer Bankruptcy Can Cause Forced Rollovers
An employer might change a retirement plan provider if they enter bankruptcy or otherwise make changes to their 401(k) plan. This can also cause a forced rollover. Note that the new retirement plan sponsor might have different rules and regulations than the original plan, so it’s always best to carefully read the new summary plan document (and all disclosures!) to get up to speed.
How to Handle Forced Rollovers
If you are faced with a forced rollover, not to worry. The only time a forced rollover can have any real impact is if you don’t do anything about it for a significant amount of time after the funds have been rolled over. Even still, the negative impacts are relatively limited on a big-picture basis.
Start by following the below steps:
- Gather all necessary information about your retirement plan and your forced rollover. This can include account type and tax status, account numbers, and the original employer who offered you the plan to begin with.
- Understand your rollover options and their respective implications. More than likely, you’ll want to roll your money into a new IRA account or an existing one at a provider of your choice. But you might also want to combine the money with your new employer’s 401(k) plan, or you might even want to cash out the account entirely.
- Consider seeking professional advice. If you’re really not sure about how to proceed, don’t be afraid to seek counsel from a qualified fiduciary, like a Certified Financial Planner.
If you decide to roll the money into another account, you can choose either a direct or an indirect rollover.
- With a direct rollover, your retirement funds are transferred directly from the rolled-over account to the account of your choice. You never receive the money directly.
- With an indirect rollover, you receive the funds into your bank account. It’s then your responsibility to re-deposit the funds (before any tax withholding) into an IRA or otherwise tax-advantaged retirement account at a new financial institution.A failed indirect rollover can lead to:
- Early withdrawal penalties. If you’re under 59 1/2 years old, you may be subject to a 10% penalty on the total amount withdrawn.
- Income tax consequences. If you don’t roll over your old account to your new account by the end of 60 days from the original distribution date, you’ll owe ordinary income tax on the entire amount (the amount of your account balance before any tax withholding).
Like with any financial decision, deciding what to do with your rollover is critically important. Don’t be shy to reach out to a qualified tax advisor if you’re not sure what to do after you’ve experienced a force-out – tax penalties can be costly!
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