AAII, the American Association of Individual Investors

IRA Rollover Chart: Rules Regarding Rollovers and Conversions

by Charles Rotblut

The Internal Revenue Service (IRS) has a very helpful chart showing what types of retirement savings account can be rolled over or converted into another type of retirement savings account.

We republish the chart here with a few modifications to make it easier to use (Figure 1). Rollovers generally fall into one of three categories: direct, trustee-to-trustee or 60-day.

A direct rollover is a distribution from a defined-contribution (DC) plan to another defined-contribution plan or an IRA. When you leave a job, you have the option of moving your 401(k) savings or other similar employer-sponsored plan assets to an IRA or to your new employer’s defined-contribution plan (assuming your new employer allows you to do so).

A trustee-to-trustee transfer occurs when you move your account from one financial institution to another. An example would be moving your traditional IRA account from one brokerage firm (e.g., Fidelity) to another brokerage firm (e.g., Charles Schwab).

The key differentiator with 60-day rollovers is that the account balance is paid directly to you as opposed to being directly transferred from one financial institution to another. Once the rollover starts, you have 60 days to deposit the balance into a new retirement account. The IRS describes the deadline as “the 60th day following the day on which you receive the distribution.” Failure to meet this deadline will result in not only a forfeiture of the withheld taxes but also a potential tax penalty.

A fourth type of transaction is a conversion. Known more commonly as a Roth IRA conversion, this involves converting assets held in a tax-deferred account, such as a traditional IRA, into an aftertax account, such as a Roth IRA. The amount converted is taxable at ordinary income rates.

[Note: As of January 1, 2018, Roth IRA conversions can no longer be undone (aka recharacterized).]

Rules to Keep in Mind

There are a few basic rules to keep in mind. First, the tax treatment of the dollars contributed to an account influences whether taxes will be triggered if those assets are moved to a different type of account. Assets held in a qualified account, such as a 401(k) plan, can be rolled over into traditional individual retirement account (IRA) tax-free since both types of accounts are funded with pretax dollars. Assets converted from a 401(k) plan or a traditional IRA into a Roth IRA will be taxed at ordinary income rates. This is because the Roth IRA holds aftertax dollars. [No taxes are triggered when Roth 401(k) assets are rolled over to a Roth IRA.]


Figure 1. The Internal Revenue Service’s Rollover Chart
Figure 1. The Internal Revenue Service’s Rollover Chart

For more information regarding retirement plans and rollovers, visit IRS.gov page Tax Information for Retirement Plans. Source: IRS.gov.


 

Second, as previously stated, if the balance from an IRA or retirement plan is distributed directly to you, you only have 60 days to deposit the amount into another IRA or retirement plan. Failure to complete the rollover within this time window will result in the distribution being taxed at your marginal tax rate (it counts as ordinary income). If you are under the age of 59½, you could be charged a 10% penalty on top of having to pay taxes based on your ordinary income rate.

Third, you are only allowed to make one IRA rollover in any 12-month period. Note the language: It does not say “calendar year,” but rather “12-month period.” This rule went into effect on January 1, 2015. There are exceptions to it:

  • Roth IRA conversions: These are taxable transactions and not subject to the rule.
  • Trustee-to-trustee transfers: You can move your account and IRA assets from broker to broker as many times as you like so long as the assets are not distributed to you. (A check payable to you instead of the receiving IRA custodian would trigger the 12-month rule.)
  • Qualified-plan-to-IRA rollovers: A different part of the tax code covers rollovers from 401(k) plans to IRAs, so these do not count against the 12-month restriction.
  • Plan-to-plan rollovers: You can move your 401(k) savings from one employer to another without triggering the time restriction.

Click here to link to the original IRS Rollover Chart.