How Does a 401(k) Work When You Retire?

When you retire, your 401(k) offers several options for accessing your savings, each with different tax implications and withdrawal rules. You can take lump-sum distributions, set up periodic withdrawals, roll the funds into an IRA or leave the money invested, depending on your financial needs and the plan’s requirements. Required minimum distributions (RMDs) generally begin at age 73 unless the account is a Roth 401(k), which has different withdrawal rules. Understanding how a 401(k) works when you retire can help you manage withdrawals efficiently while balancing taxes, investment growth, and long-term financial security.

A financial advisor can help you decide how to structure your 401(k) withdrawals.

How 401(k) Distributions Work

The mechanics of 401(k) distributions are generally simple although details may vary by plan. Usually, a 401(k) owner can simply log into their online account and transfer funds to their checking or savings account. Another option is to write, call or visit the plan administrator and request a check. You can take a distribution as a lump sum single payment or in periodic smaller amounts.

You will owe income taxes on distributions after you retire, and plans do not withhold these taxes when account owners request distributions. So it’s a good idea to set aside some of the amount withdrawn to pay taxes. And once you get beyond the basic mechanics, things get more complicated. Your age is one important factor to consider.

Age Considerations with 401(k) Distributions

A 401(k) plan can be a powerful help to retirement savers, but they work best if you don’t plan to stop working much before traditional retirement age. That’s because withdrawals from a 401(k) taken before age 59 ½ usually are subject to a 10% penalty in addition to the regular income taxes imposed on all regular 401(k) withdrawals.

To avoid the 10% penalty, don’t withdraw before age 59 ½. If you do take money out before 59 ½, you can avoid penalties as well as taxes by rolling over the full amount withdrawn into another retirement account within 60 days.

An exception to the 10% penalty applies if you are unemployed. If you lose your job, you may be able to withdraw from your 401(k) without penalty as soon as age 55. A few other exceptions, such as becoming disabled, may also let you avoid the penalty when withdrawing before 59 ½.

Required Minimum Distributions (RMDs)

Individuals with traditional 401(k) plans and other tax-deferred retirement accounts must begin taking required minimum distributions (RMDs) at age 73, or at 75 for those born in 1960 or afterward. Each year’s required withdrawal is calculated by taking the account balance from December 31 of the previous year and dividing it by a life expectancy factor established by the IRS.

Failing to withdraw the full RMD results in a penalty. Before 2023, the penalty was 50% of the shortfall. Under the SECURE 2.0 Act, this was reduced to 25%. However, if the mistake is corrected within the IRS’s “correction window,” the penalty drops to 10%. The correction window typically extends to the end of the second year after the missed RMD.

RMDs are subject to ordinary income tax, which can impact retirement tax planning. Since withdrawals increase taxable income, they may push retirees into a higher tax bracket or affect Medicare premiums. Unlike traditional 401(k) accounts, Roth 401(k)s were previously subject to RMDs, but this requirement was eliminated starting in 2024. Retirees who do not need the funds immediately may roll their 401(k) into a Roth IRA to avoid future RMDs.

How Does a 401(k) Work When You Retire?

Once you retire, you have several options for managing your 401(k) funds. Each choice carries different tax implications, withdrawal flexibility and investment considerations. Evaluate each option based on financial needs, tax strategy and retirement goals.

Leave the Money in the 401(k)

If your plan allows it, you can leave your funds in the 401(k), allowing them to continue growing tax-deferred. This option may be beneficial if your plan offers low-cost investment options or strong creditor protections. However, RMDs must begin at age 73 unless it’s a Roth 401(k). Staying in the plan also means you remain subject to its rules, fees, and limited investment choices.

Take Lump-Sum Withdrawals

You can withdraw the entire balance as a lump sum, but doing so may result in a large tax bill since the full amount is taxed as ordinary income. This option may be useful for those who need immediate access to funds but can significantly impact tax liabilities. However, withdrawing a substantial amount within one year may raise your taxable income, potentially placing you in a higher tax bracket and resulting in greater tax obligations.

Set Up Periodic Withdrawals

Many retirees opt for systematic withdrawals, taking monthly, quarterly, or annual distributions. This approach allows for controlled cash flow while managing tax exposure. Structuring withdrawals strategically can help smooth out taxable income and optimize tax efficiency.

Roll it Over to an IRA

Transferring a 401(k) to an IRA can provide more investment choices and flexibility. Traditional rollovers maintain tax deferral, while converting to a Roth IRA triggers taxes upfront but eliminates or reduces future RMDs. An IRA rollover may also offer more withdrawal options and estate planning benefits.

Bottom Line

Deciding how to handle a 401(k) in retirement depends on factors like tax considerations, withdrawal timing and long-term financial goals. Some retirees prefer to leave funds in their plan for continued tax-deferred growth, while others take distributions gradually or roll the balance into an IRA for greater flexibility. Required minimum distributions eventually come into play, and tax planning can help manage their impact. Understanding the available options allows retirees to structure withdrawals in a way that supports both short-term income needs and long-term financial stability.

Retirement Tips

A financial advisor can help you sort through your options for withdrawing from a 401(k) in retirement. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
You can get a read on how much money you’ll need for a secure retirement using SmartAsset’s retirement calculator. This free online tool takes into account where you live, how much you make, your birth year, when you plan to start taking Social Security benefits and other factors to tell you how much income you’ll need to live comfortably after you stop working.