Definition of 'Rollover IRA'
A special type of traditional individual retirement account into which employees can transfer assets from their former employer’s retirement plan when they change jobs or retire. The purpose of a rollover IRA is to maintain the tax-deferred status of those assets. Rollover IRAs are commonly used to hold 401(k), 403(b) or profit-sharing plan assets. Rollover IRA funds can later be moved to a new employer's retirement plan. Rollover IRAs do not cap the amount of money an employee can roll over, and they permit account holders to invest in a wide array of assets such as stocks, bonds, ETFs and mutual funds.
Investopedia explains 'Rollover IRA'
By moving retirement plan assets through a direct rollover, in which the former employer’s plan administrator moves the assets directly to the rollover IRA, employees avoid having 20% of their transferred assets withheld by the IRS. Assets can also be moved using an indirect rollover, in which the employee takes possession of the plan assets and then places them into another eligible retirement plan within 60 days. With an indirect rollover, however, 20% of the account’s assets may be withheld and cannot be recovered until the employee files his or her annual tax return. If the movement of assets from a qualified employer-sponsored retirement plan to a rollover IRA is not handled correctly, the employee will face taxes. If he has not yet reached retirement age (59.5), he will also pay early withdrawal penalties on those assets.
An alternative to rolling distributions into a rollover IRA is for the employee to roll them directly into a new retirement account with a new employer. Other options include rolling assets into a traditional IRA, but this may have implications for transferring the funds to another employer’s retirement account in the future. The rollover money can also be converted into a Roth IRA, but taxes will be due since qualified employer retirement plan contributions are made pre-tax and Roth IRAs can only hold post-tax contributions.