IRA Rollovers

When an employee leaves a job or a qualified plan is terminated, a special IRA – called a rollover or conduit IRA - can be used to hold a qualified plan distribution until it is either transferred into a new qualified retirement plan or is later distributed to the employee.¹ Tax-sheltered annuity and IRC Sec. 457 governmental plan distributions may also be transferred to an IRA rollover.

If the distribution is transferred to an IRA rollover² (or another qualified plan) in a direct rollover, no income tax is withheld and the employee avoids current income tax on the distribution.

If the distribution is first paid to the employee before being rolled over (it must be rolled over within 60 days) the plan administrator will withhold 20% of the distribution. In order to roll over the entire distribution and avoid current taxation (and a possible 10% penalty tax on the 20% of the distribution that was withheld), the employee will have to make up the 20% withholding from his or her separate funds.

Distributions from a traditional IRA, Roth IRA, or SIMPLE IRA are not subject to the mandatory 20% tax withholding. However, if the distribution is not rolled to a plan of the same kind within 60 days, the entire distribution is generally taxable.³

A qualified plan participant has two options when leaving a job:

• Participant may retain funds in an IRA until age 701⁄2 and then begin distributions.
  
• Participant may roll the funds over from the conduit IRA into another qualified plan (if permitted). This will requalify the funds for 10-year4 averaging as long as no regular IRA contributions have been made to the conduit IRA.

¹ Based on federal law. State or local law may differ.
² The IRA referred to here is a traditional IRA, not a Roth IRA.
³ If a SIMPLE IRA is rolled to any other type of IRA within two years of the SIMPLE IRA being established, a 25% penalty tax is assessed.
⁴ Those born before 1936 may be able to elect 10-year income averaging or capital gain treatment; these strategies are not available to those born after 1935.

• Partial distributions can also qualify as eligible rollover distributions and can be tax deferred.
  
• Both deductible and nondeductible employee contributions may be rolled to the IRA.
  
• Noncash assets which are distributed can be sold and the cash proceeds transferred to the rollover IRA without realizing a current tax on any gain.
  
• Amounts received but not rolled over are generally included in gross income in the year received. If the employee is under age 591⁄2 when the funds are distributed, an additional 10% income tax penalty may apply, unless one of the exceptions in IRC Sec. 72(t) applies. Amounts withheld and remitted as tax withholding are considered to be amounts received.
  
• Following the decision of the U.S. Tax Court in Bobrow v. Commissioner, T.C. Memo. 2014-21, beginning January 1, 2015, the IRS intends to apply the IRC Sec. 408(d)(3)(B) one-rollover-per year limitation for IRAs on an aggregate basis, regardless of the number of separate IRA accounts that an individual may hold. Under prior IRS guidance, the one-rollover-per-year limitation applied on a per-account basis.
  
• The IRA conduit rollover should be distinguished from a direct trustee to trustee transfer. In a direct transfer, the funds are transferred directly from one plan to another without going through a conduit rollover or being distributed to the participant.
  
• Federal bankruptcy law provides significant protection from creditors to participant accounts or accrued benefits in tax-exempt retirement plans. Generally, assets in IRA accounts are protected for amounts up to $1,245,475.¹ However, funds rolled over from qualified plans are protected without limit.

•  Before rolling assets over from a qualified plan, you should consider various factors. These factors include but are not limited to the following: Investment Choices, Fees and Expenses, Services provided by new option, Penalty-Free withdrawals, Required Minimum Distributions, and Tax considerations. Speak to a tax professional about your individual situation before taking any action.

¹ Effective April 1, 2013. The limit is indexed for inflation every three years.

At retirement, many individuals are faced with the choice of whether to take a lump sum distribution from their qualified plan and pay the income tax or roll the funds into an IRA¹ and pay the tax only as funds are withdrawn

Lump sum distributions from qualified plans may be transferred to an arrangement called a “rollover” IRA. To avoid the mandatory 20% federal income tax withholding rule, the payment must be made directly to the rollover IRA.

The taxpayer may choose to take all of a qualified retirement plan distribution outright and pay the tax.4 IRC Sec. 402(d). There will be a mandatory 20% federal income tax withholding. Some states may also require income tax withholding.

No tax is due at the time of the transfer to the IRA, but later distributions are taxed as ordinary income. The IRA must begin distribution by April 1 following the year in which the individual attains age 701⁄2.

Taxpayers age 50 or more on 1/1/86 will have a choice at retirement age to: (1) Pay tax at capital gains rates (up to 20%) on pre-1974 portion and at ordinary income rates for the post-1973 portion, or (2) Elect 10-year averaging for the post-1973 portion or the entire amount (at 1986 rates).

¹ The comments in this report refer to a traditional IRA and not the Roth IRA. 2. Individuals must be at least age 591⁄2 to avoid the 10% income tax penalty for early withdrawals, subject to certain exceptions. 3. There are special requirements for lump-sum distributions. 4 If a lump-sum distribution from a qualified plan includes appreciated employer securities, the tax on the net unrealized appreciation may be deferred until the securities are disposed of in a taxable transaction. See IRC Sec. 402(e)(4)(B).