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IRA Rollover Rules: Avoid Making This Costly Mistake

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  |  By Taylor Close

When it comes to IRA rollover rules, what you don’t know can hurt you.

In late 2014, the IRS issued “clarifying guidance” on IRA-to-IRA rollovers, which are sometimes called indirect rollovers or 60-day rollovers. When this guidance was issued, we explained that investors were using indirect or 60-day rollovers as a way to turn retirement savings into a short-term loan.

In the case of an indirect rollover, an investor would take funds out of his or her IRA and a check would be issued in his or her name. The investor then had 60 days (hence the term “60-day rollover”) to roll those funds back into an IRA in order to avoid any applicable taxes and/or a 10% early withdrawal penalty. This had the effect of essentially providing an investor with 60 days of access to IRA funds without tax or penalty.

Until the IRS updated its guidance, such 60-day rollovers were permitted once every 12 months from each IRA that an investor owned. But the new 60-day rollover rules cracked down on the ability for investors to access IRA funds in this manner — as of Jan. 1, 2015, the 12-month rule began to apply to all IRAs owned by an investor.

Now, if an investor owns two IRAs and takes a distribution from one and rolls it over, he or she is no longer allowed to take another distribution from either IRA and roll the funds into another IRA within a rolling 12-month period as the first rollover.

A recent article, written by IRA specialist Ed Slott, warns that clients’ 2015 tax returns are being hit with costly penalties due to this updated once-per-year IRA rollover rule.

As Slott explains in his article about the new IRA rollover rules:

“Only one 60-day IRA-to-IRA rollover can be done per year (365 days) by an individual, regardless of how many IRAs he or she holds. A strict new version of the once-per-year IRA rollover rule has been in effect since Jan. 1, 2015, but some advisers are still making costly errors. Some clients, too, are completely unaware of the new rule. The fallout is happening now after the filing of clients’ 2015 tax returns. This was the first year that a second ineligible IRA rollover would trigger an unwanted tax bill and related possible tax penalties. Unlike some other tax mistakes, running afoul of the once-per-year IRA rollover rule is a fatal error. It cannot be fixed. IRS does not have the authority to provide any relief on this error.”

It’s important to understand the new IRA rollover rules do not apply to all rollovers. Here are some exceptions:

1. Direct rollovers: These rollovers occur when an investor rolls over funds from an employer retirement plan, like a 401(k), into an IRA or other qualified plan after they retire or change jobs. In a direct rollover, the balance is transferred directly from the plan into an IRA account, allowing the assets to maintain their tax-deferred status. The participant/IRA owner never takes possession.

2. Roth IRA conversions: The rule also does not apply to Roth IRA conversions, so if you decide to switch from a traditional IRA to a Roth, your rollover will not be subject to this rule.

3. Trustee-to-trustee transfer: Instead of withdrawing directly from an IRA, an investor can use a trustee-to-trustee transfer to have funds directly transferred from one IRA provider to another. In this transaction, the funds are not personally transferred to the investor, eliminating the ability for investors to use IRA funds as a short-term loan. In its latest guidance, the IRS encouraged IRA trustees to offer these transfers to individuals who request rollover distributions so they would not be subject to the once-a-year IRA rollover rule.

If you have more than one IRA and you want to do a rollover, the new IRA rollover rules mean you should probably monitor your transactions more closely. It’s also always recommended that you work with a trusted advisor in these situations to make sure you don’t inadvertently incur a taxable event.

To find a Certified Public Accountant (CPA) who can help you with tax-related questions, check out our Professional Directory.

This Blog does not provide investment, tax, or legal advice nor does it evaluate, recommend or endorse any advisory firm or investment vehicle. Investments are not FDIC insured and are subject to risk, including the loss of principal.

PENSCO Trust Company performs the duties of an independent custodian of assets for self-directed individual and business retirement accounts and does not provide investment advice, sell investments or offer any tax or legal advice. Clients or potential clients are advised to perform their own due diligence in choosing any investment opportunity as well as selecting any professional to assist them with an investment opportunity. Alternative investments are not FDIC insured and are subject to risk, including loss of principal. Other than the Opus Affiliates, PENSCO is not affiliated with any financial professional, investment, investment sponsor, or investment, tax or legal advisor.