Can I Do a Partial 401(k) Rollover?

Mike Piper the Oblivious Investor writes: Can I Do a Partial 401(k) Rollover?

A reader writes in, asking:

“After quitting my job, is it possible to do a rollover with just part of my 401k? I would like to be able to move some money to an IRA but keep some of it in the 401k.”

Yes, from a tax standpoint, you are allowed to roll over a portion of your 401(k) while keeping the rest of it in place.

I say “from a tax standpoint,” because there’s also the administrative standpoint to consider: Not all 401(k) plans are set up to allow partial rollovers. (Your plan administrator will be able to tell you whether your plan allows them.)

A partial rollover can be helpful if, for instance, your 401(k) has one investment option that is both excellent and not available to retail investors, but the rest of the investment options are miserable. In such cases, it can make sense to keep just enough money in the account to hold as much of that one investment as you want to hold, while rolling everything else out of the account to an IRA.

Partial rollovers can also be helpful if you retire between ages 55 and 59.5. In these cases, due to a separation from service in or after the year in which you turn age 55, you would have penalty-free access to the 401(k) money, but because you’re not yet age 59.5, you might not have penalty-free access to traditional IRA money. As a result, you may want to roll over part of the 401(k) — in order to be able to invest it however you want — while leaving enough money in the 401(k) to satisfy living expenses until you reach age 59.5.

Partial rollovers are also one way to take advantage of the “net unrealized appreciation” rules if you have appreciated employer stock in your 401(k). That is, you roll everythingexcept the appreciated employer stock into an IRA, and, in the same year, you do an in-kind distribution of the employer stock to a taxable account, thereby allowing the appreciation to be taxed (when you sell the stock) at long-term capital gains tax ratesrather than ordinary income tax rates. (Your basis in the employer stock will still be taxed at ordinary income tax rates when you take it out of the 401(k). And if you’re under age 59.5, it’s possible that the basis will be subject to the 10% penalty as well.)