When an individual changes jobs, or simply retires, many times they will have some form of employer sponsored plan. As most employer do not allow you to keep your investments with them once you part ways, it is crucial that the employee determine the best place to move their money. While this process is relatively straightforward, there are a few IRA rollover rules that you should be aware of in order to avoid any potential tax implications.

IRA Rollover Rules

  1. Approved Plans IRA rollover are generally allowed from most employer sponsored plans. Examples include 401k, 403b, and 457 plans. In many cases, profit sharing plans will also qualify.
  2. Approved Time Limit From the day that you receive the funds from your old plan, you have 60 days to complete the rollover process. If you do not complete the entire process within the required time frame, the IRA will consider the entire distribution to be a taxable event. This typically results in additional taxes and penalties being assessed if the individual is less than age 59 1/2.

401k Rollover Options

When it comes to rolling over your funds, you basically have three possible 401k rollover options (or other approved plan types).

  1. Direct Rollover The direct rollover is the option in which most people are familiar. With this option, the employee simply authorizes the old plan to transfer the existing balance directly to the new custodian. This results in a transaction that is generally not taxable. Furthermore, no penalties are assessed and no funds are withheld.
  2. Indirect Rollover This option is very similar to the direct rollover option. The primary difference with indirect rollovers is the fact that the old plan issues the employee a check for the balance of their account. It is then up to the employee to ensure the full amount is reinvested in an approved retirement plan within 60 days. If the full amount is not reinvested, IRA rollover rules allow the IRS to treat the distribution as a taxable event.
  3. Cash Distribution When an individual elects to take a cash distribution, the trustee of the old plan issues the employee a check for the balance of the account less 20%. The trustee is required by law to withhold 20% from the distribution. This serves to act as prepayment of the estimated taxes that will be due as a result of this transaction. Of course, if you are in a higher tax bracket, you may owe even more tax on the distribution.

While these IRA rollover rules tend to be easy to understand, it is crucial that you properly prepare. Each type of rollover requires a specific plan. Always consult with your tax professional to determine which method is most appropriate for your circumstances.