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What’s in a Word: IRA Rollover

Someone handing over a bag of money

  |  By Joseph Adams

The IRS issued some clarifying guidance on once-a-year IRA rollover rules last week but when it comes to the IRS sometimes “clarifying” can actually be pretty confusing. It’s also easy to get confused when it comes to rollovers because there are many different types, and it’s important to understand that this rule limiting rollovers to once per year only applies to IRA-to-IRA rollovers.

Direct Rollovers

When investors hear the term rollover, they often think of rolling over funds from an employer’s retirement plan, like a 401(k), into an IRA after they retire or change jobs. This is referred to as a direct rollover because the funds never pass through your hands. Instead, the balance is transferred directly into an IRA account, allowing the assets to maintain their tax-deferred status.

The rule that the IRS clarified last week does not impact these direct rollovers. You can still roll over those funds into an IRA every time a qualifying event occurs.

Indirect Rollovers

So, what was the IRS referring to when it talked about a “one per year limit” on IRA rollovers? It was referring to IRA-to-IRA rollovers, also called indirect or 60-day rollovers, which can be used to turn your retirement savings into a short-term loan. In the case of an indirect rollover, you take funds out your IRA and a check is issued to you. You then have 60 days to roll those funds back into an IRA before the money becomes taxable or subject a 10% early withdrawal penalty -- effectively giving you 60 days of access to interest free funds.

Until now, such tax-free 60-day rollovers were permitted once every 12 months from each IRA that you owned. But it appears the IRS is cracking down on the ability for investors to access IRA funds as a short-term loan, and starting next year, this 12 month rule will apply to all IRAs you own. For instance, if you have two IRAs, and you take a distribution from one and roll it over, you are not allowed to take another distribution from either IRA and roll the funds into another IRA within the same 12-month period as the first rollover.

Trustee-to-trustee Transfers

What does this mean for managing your retirement savings as your circumstances inevitably change on a yearly basis? It’s important to note that this rule does not apply to Roth IRA conversions, so if you decide to switch from a traditional IRA to a Roth it will not be subject to this rule.

There is also still a way to make multiple tax-free transfers from one IRA to another without facing the once-a-year rollover rule. Instead of withdrawing directly from your IRA, you 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 you, eliminating the ability to use your 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 rollover rule.

At PENSCO, we want you to be in the driver’s seat when it comes your retirement savings and understanding the options for managing your IRA. If you have more than one IRA and you want to do a rollover, the new rules mean you should probably monitor your transactions more closely. It’s also always recommended that you work with a trusted tax advisor in these situations to make sure you don’t inadvertently incur a taxable event. If you have questions about how these rules might affect you give us a call at 866-818-4472.