Ed Slott: Pay Attention to Rollovers' Tax Consequences

What You Need to Know

The tax code requires plans to give participants a 402(f) Notice when they separate from service.
However, while the notice is supposed to explain distribution options, it has been widely criticized for not being clear enough, Slott said.
Secure 2.0 required that the GAO look at the effectiveness of the 402(f) Notice.

A new report by the Government Accountability Office — and the Labor Department’s new fiduciary rule — underscore the importance of advisors helping their clients understand the tax consequences of rollover options, according to Ed Slott of Ed Slott and Co.

The tax code requires plans to give participants a 402(f) Notice when they separate from service, Slott told ThinkAdvisor.

While the notice “is supposed to explain their distribution options,” it has been “widely criticized for not being clear enough,” Slott said. “The average employee probably has no clue how important this [notice] is and either passes it on to their advisor or does nothing until it’s too late.”

Employees leaving companies “need help with [the tax consequences of rollovers] and they are not getting it,” Slott continued. “That’s a big opportunity for financial advisors to step in and help, but the advisors too, need to be better informed on these distribution options.”

A new GAO report, “401(k) Retirement Plan Tax Notices: Federal Actions Can Help Participants Understand Their Distribution Options,” notes that “many people have trouble tracking their 401(k) accounts when they change jobs.”

After separating from an employer, “plan participants are sent a 402(f) Notice that has some information on distribution options—like rolling over funds—and the tax consequences of cashing out funds from old plans,” the report explains.

However, “only about a third of participants received this notice before they decided what to do with their retirement savings,” according to the report. “About 80% of participants weren’t aware of all their distribution options.”

In Secure 2.0, Congress required that the GAO look at the effectiveness of the 402(f) Notice and recommend ways to improve it.