A 2015 ruling by the Tax Court can affect your flexibility in moving from one Individual Retirement Account (IRA) to another, and it's still catching people by surprise today. It's easy to become confused, because the Internal Revenue System's own Publication 590 took awhile to catch up with the new ruling and gave contradictory recommendations. It's important to understand the stricter interpretation of the law, because making a mistake can subject you to unnecessary taxes and penalties, and could cause you to lose your IRA.
A couple of years ago, moving money from one IRA to another was fairly straight-forward, as long as you followed the "60-day rule". What this meant was, you could withdraw money from an IRA, but as long as you deposited the money into another IRA within 60 days, you would not be taxed on the distribution, and your money would continue to grow tax-deferred in the new IRA. This gave valuable flexibility to many people -- they could take money out of their IRAs and use for 60 days tax-free. If they put it back into an IRA within 60 days, it was like it never even happened.
Before 2015, the understanding was that you could apply the "60-day rule" to multiple IRAs in the same year. Let's say you have $50,000 in IRA 1, and $100,000 in IRA 2. You decide to liquidate the $50,000 IRA, and within 60 days, you put it back into another IRA. Later that year, you liquidate the $100,000 IRA. Same as with the first IRA, you deposit the money back into an IRA within 60 days. No taxes, and no penalties.
That was under the old rules. Unfortunately, the Tax Court felt this was a loophole they needed to close. Now, you can only apply the "60-day rule" to ONE IRA within a 12-month period, no matter how many IRAs you have. Using the same scenario above, the first IRA transfer of $50,000 would be allowed, but the second IRA transfer of $100,000 would be disallowed. The IRA owner would have to pay tax on $100,000, and the IRA would come to an end. To make matters worse, the IRA owner could also incur a 6% annual penalty for excess contributions because annual IRA contributions are limited to $5,500 ($6,500 if you're over 50 or older). The penalty would continue until the excess contribution was corrected.
You should also be aware that there are many different types of IRAs -- there are Traditional IRAs, Roth IRAs, SEP IRAs, and SIMPLE IRAs. Among all of these IRAs, only ONE rollover can occur every 12 months, NOT one rollover for each type of account.
The good news is that there is a way to move from one IRA to another IRA that avoids the restrictions and penalties. It's called a "trustee-to-trustee" (also known as a "custodian-to-custodian" transfer). Every IRA has a trustee or custodian. The trustee-to-trustee transfer is not considered a distribution because the IRA owner doesn't have direct access to the money. And because it's not considered a distribution, it's not subject to the only-1-per-12-month limit.
The trustee-to-trustee transfer is best done by direct transfer. This means the money goes directly from Trustee A to Trustee B and never touches your hands. From the IRS' point of view, this is clearly not a taxable issue. Another way to do the trustee-to-trustee transfer is to have the check written payable to the trustee. For example, the check might read "Payable to Charles Schwab, custodian FBO Your Name." FBO means "For the Benefit Of." Unlike the IRA-to-IRA rollover, there are no limits on the number of trustee-to-trustee transfers that can be made each year.
Because the consequences can be dire if you make a mistake, and there is little recourse once you've made an error, it may be wise to consult with a CPA or Certified Financial Planner™ when you want to do an IRA rollover or transfer.
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