Key takeaways
Once you turn 59½, you’re able to begin making withdrawals from your 401(k) without penalty.
If you have a traditional 401(k), you’ll need to pay income tax on the withdrawals you make.
A financial advisor can show you how your 401(k) withdrawals can work with other sources of income to make the most efficient use of your nest egg.
Over the course of your working years, you diligently contribute to your 401(k) in preparation for retirement. But what happens once you actually get there? Retirement marks a major life transition—which includes switching from saving your money to generating income with your savings.
So how does a 401(k) work when you retire? While it will be an essential source of income when you exit the workforce it’s a good idea to build a more comprehensive plan to create your retirement income. Here’s what you can expect from your 401(k) when you retire.
How does a 401(k) work when you retire?
First, it’s important to note that there’s no hard and fast rule for how you should use your 401(k) when you retire. You may choose to keep your 401(k) with your employer and simply take distributions from it. Or, if you’d like to take advantage of better investments or annuity options, you can rollover your 401(k) when you retire. How and when you choose to access those funds will depend heavily upon your individual retirement plan—which is something you’ll want to have mapped out well before you retire.
Here are some key ideas you’ll want to keep in mind as you make plans for your 401(k) in retirement:
A 401(k) is one source of retirement income
Remember that a 401(k) on its own is not a retirement income plan. While it’s certainly a smart way to save for your future and plays an integral part in building your nest egg, a 401(k) is just one source of income you’ll probably be relying on in retirement. The key to maximizing what you’ve saved in your 401(k) is deciding how you’ll use it in conjunction with other sources of income in retirement.
Your plan might also include withdrawals from other accounts like IRAs, investments, cash value built up within a whole life insurance policy and cash reserves. It may also take into account annuities, pensions and Social Security as well. Having multiple streams of income lets you more efficiently generate retirement income by strategically leaning on different sources at different times. This approach can help you minimize the impact taxes while balancing the need to grow your investments and generate reliable income that will last through your retirement.
Working with a financial advisor—both to create and execute the plan—can help ensure that you’re getting the most out of each of your sources of income and protecting yourself against risks.
According to the Rule of 55, if you part ways with your employer at age 55 or older, you can begin taking money from your 401(k) without incurring a penalty. This could allow you to retire before 59½ or start accessing funds for another reason.
One way to get around RMD’s is by converting 401(k) funds into a Roth IRA. The benefit of doing that is with a Roth IRA, you typically won’t owe any taxes on the money that’s distributed from a Roth account. (RMDs used to be required for a Roth 401(k), but as of 2024—they're not.)
Make sure you’ve paid off any loans you’ve taken from your 401(k) before you choose to retire. If you leave your employer with an outstanding loan, you’ll generally have to pay it back within a certain number of days (usually 90). If you don’t the unpaid balance will be reported as a distribution and you’ll have to pay ordinary income taxes on it. If you’re under 59 ½, you’ll also be on the hook for the 10 percent early withdrawal penalty.
If you’re close to retirement and thinking of doing a Roth conversion—make sure you keep Medicare in mind. Medicare IRMAA—the Medicare income-related monthly adjustment amount—a adjustment to the subsidy for those paying into Medicare, is based on your income the two years prior. So, if you convert to a Roth two years before you’re planning to enroll in Medicare, you may significantly reduce your subsidy and increase what you’ll pay for Medicare in that tax year. However, this adjustment only applies for one year, and in some instances, an added cost for one year may be worth the longer-term benefit of converting funds.
What to do with your 401(k) when you retire
So how does a 401(k) work when you retire? In short:
Once you’re 59½, you can begin taking withdrawals without penalty. You can withdraw as much or as little as you’d like—whenever you like.
With a traditional 401(k), you’ll have to pay income tax on your withdrawal.
If you haven’t started taking withdrawals by age 73, you’ll need to begin doing so in the year you turn 73.
You’ll have many options for how to use your 401(k) when you retire, but how much you put into your 401(k) and what you do with it when you retire are ultimately up to you. You won’t be able to move funds until you leave your job, but once you retire, most employer plans allow for different distribution options, such as:
Leaving the money in your 401(k) plan and taking it out as a lump sum, in regular installments or in individual withdrawals as needed
Purchasing an annuity within the plan or rolling money out of the plan into an annuity
Rolling money out of the plan into an IRA or Roth account to get more investment options as well as potentially better advisor management and better control over withdrawal decisions
Ultimately, working with a financial advisor can help you make the best decisions about what to do with your 401(k) and how to get the most out of it. Your advisor can discuss the pros and cons with you and help you look at your complete financial picture. They’ll make recommendations that both help you reach your goals and protect your savings against risk.
Our financial advisors at Northwestern Mutual can help you take a look at what you’ve got saved and help you to get to where you want to be. Your advisor will work with you to design a strategy that’s uniquely tailored to you and encompasses more than retirement and your 401(k). From starting to save for retirement to legacy planning and everything in between, our advisors can help you keep your eye on the big picture and prepare for all the milestones ahead of you.
The primary purpose of life insurance is to provide a death benefit. Using permanent life insurance cash value to supplement retirement income will reduce the death benefit and may affect other aspects of the policy.
Financial representatives do not render legal or tax advice. Consult with a tax professional for tax advice that is specific to your situation.
RMD requirements and tax implications are as of date of publication, and subject to change.
Certified Financial Planner Board of Standards, Inc. (CFP Board) owns the CFP® certification mark, the CERTIFIED FINANCIAL PLANNER™ certification mark, and the CFP® certification mark (with plaque design) logo in the United States, which it authorizes use of by individuals who successfully complete CFP Board’s initial and ongoing certification requirements.
