IRA Rollover

The IRS recognizes three routes, and they differ in withholding and in risk.

A direct rollover moves money from a workplace plan, such as a 401(k), 403(b) or governmental 457(b), straight to an IRA or another plan. Nothing is withheld, and a check made payable to the new account counts as direct.

A trustee-to-trustee transfer is the IRA-to-IRA version: the old custodian sends the money to the new one. Nothing is withheld, and legally it isn’t a rollover at all, so there is no limit on how many you make.

A 60-day rollover, often called an indirect rollover, pays the money to you. You then have 60 days from the day you receive it to deposit it in an IRA or plan. Any part you don’t redeposit in time is a taxable distribution, and before 59½ it can also owe the 10% early withdrawal penalty.

Most plan money lands in a traditional IRA, which keeps it pre-tax. Rolling pre-tax money into a Roth IRA is also allowed, but the taxable amount becomes income that year, exactly like a Roth conversion.

When a workplace plan pays an eligible distribution to you rather than to another account, it must withhold 20% for federal income tax, even if you plan to roll it over. To roll over the full amount, you have to replace that 20% from other savings within the 60 days. Whatever you don’t replace is a taxable distribution, and the withholding becomes a credit against your tax when you file. An IRA that pays you directly withholds 10% unless you choose otherwise.

The 60 days run from the day you receive the money. If you miss the deadline, a December distribution is taxable in the year it was paid, even though the 60 days ran into January.

The IRS can waive the deadline in three ways: automatically, when a financial institution’s error caused the delay and the money is deposited within a year; by self-certification, a model letter to the receiving custodian citing a reason on the IRS’s list; or through a private letter ruling, where the IRS weighs causes such as hospitalization, serious illness or a postal error, for a sizable user fee. No waiver excuses the one-rollover-per-year rule.

The simplest way to avoid both traps is to open the receiving IRA first, then ask the old plan or custodian to send the money straight to it as a direct rollover or transfer, so it never passes through your hands.

Since 2015 you can make only one IRA-to-IRA 60-day rollover in any 12-month period, counting all of your IRAs together, whether traditional, Roth, SEP or SIMPLE. The 12 months start on the day you receive the distribution, not the day you redeposit it. A second rollover inside that window doesn’t count as one: the money is taxable, may owe the 10% additional tax if you are under 59½, and if it lands in an IRA anyway it is an excess contribution taxed at 6% a year until removed.

The limit is narrower than it sounds. It doesn’t apply to trustee-to-trustee transfers between IRAs, to conversions from a traditional IRA to a Roth IRA, or to any rollover that starts or ends in a workplace plan: plan to IRA, IRA to plan and plan to plan. Unlike the 60-day deadline, it can’t be waived. Anyone moving IRA money between custodians can sidestep it by asking for a direct transfer instead of a check.

Most distributions paid before retirement are eligible rollover distributions, but several kinds aren’t, and some moves only work in one direction. A plan must explain your rollover options in writing and, once your eligible distributions for the year reach $200, carry out a direct rollover if you ask. Plans aren’t required to accept incoming rollovers, though, so check with the receiving plan before any IRA-to-plan or plan-to-plan move. The main rules:

Leaving a job usually gives you three choices for a workplace account: leave it in the old plan, move it to a new employer’s plan if that plan accepts rollovers, or roll it into an IRA. An IRA typically offers wider investment choices and lets you consolidate accounts, but check the plan-only rules you would give up.

The rule of 55, which waives the 10% penalty on plan withdrawals after you leave work in or after the year you turn 55, applies to plans, not IRAs. So does the still-working exception that delays a plan’s RMDs until you retire, unless you own 5% or more of the employer. Employer stock carries another trap: rolling it into an IRA forfeits net unrealized appreciation treatment, which taxes the stock’s growth inside the plan at long-term capital gains rates when you sell.

The move can also help: only an IRA can make a qualified charitable distribution from 70½. The cost to watch is the pro-rata rule. A large pre-tax IRA balance makes a later backdoor Roth IRA mostly taxable, while money kept in a 401(k) stays outside that calculation.