What tax consequence does an employee face if they roll over a distribution from a 401(k) to an IRA?

When an employee rolls over a distribution from a 401(k) to an IRA, the correct understanding is that there is no immediate tax consequence to the employee, meaning they typically do not face any federal income tax withholding on the amount transferred if done properly.

Rolling over a distribution involves moving the funds directly from the 401(k) plan to the IRA without the employee taking possession of the money, which allows the rollover to occur tax-free. As long as the rollover is completed within the allowed time frame — generally within 60 days if the employee receives the distribution personally — there will be no immediate tax implications.

If someone incorrectly chooses to receive the distribution personally, they may face withholding for federal income taxes, but direct rollovers do not incur this issue.

The other choices do reflect potential scenarios but do not apply accurately to a direct rollover transaction. Typically, a penalty for early distribution applies if the employee takes the money out of the 401(k) and does not roll it over, particularly if they are under the age of 59½. However, as long as the rollover is executed correctly, the funds remain in a tax-deferred status and avoid immediate taxation until funds are withdrawn from the IRA later, at which point ordinary income tax