Hello,
I may be leaving my current employer to another one. I have realized my 401K of 16 years is barely over the principle invested. The taxes on the gain would be very small compared to the total (I may even be at a loss). The question is, if I take a full distribution is the 10% penalty on the gain or the entire sum?
I figure placing the money in a Roth IRA instead of a traditional IRA (like in a roll over) would be better since I have a dozen years of more before retiring. I just realized though I may be limited to the Roth IRA yearly limit, so this may not work.
Anyway, were does the penalty get applied.
Thanks!

Do a direct rollover from your 401k to an individual IRA. That way, the money does not go through your hands and is still not taxable.

All the money that comes out of the 401k is taxable at you income tax rate. So is all the money that comes out of your individual IRAs.

Then, at your local bank, you will have control of your retirement funds until you can withdraw them without a penalty, if you wish, or take the penalty for a partial withdrawal if you wish.

Generally the 10% penalty applies to the entire distribution (assuming you have no after-tax amounts in your 401(k) assets). Remember that your contributions, your employer's contributions, and any earnings to date are all untaxed so far, so in addition to the 10% penalty you also would owe ordinary income tax on the full distribution. If you live in a state with income tax you would owe that as well on the full distribution.

Best plan is to leave the money where it is for a while, until you get settled in your new job and have a better idea of exactly what options you have. At that time you could decide to leave it alone, or roll it to your new employer's 401(k) plan, or move it to a rollover IRA account without any taxes or penalties. If you do the latter, you may then be able to roll it over again into a Roth IRA, but at that point you would have to pay income tax on the roll-over. This MAY be a good idea depending on whether you think in retirement you'll be in a higher tax bracket than you are now. The determination of whether it's wise to move a regular IRA into a Roth IRA is complicated, and depends on whatever assumptions you want to make as to what the tax rates will be in the future.