A recent change in the IRA rollover rules from the IRS offers relief for clients who miss the 60-day window when doing a rollover from a 401(k) plan to an IRA, or from one IRA to another, via the non-direct rollover route by taking a distribution. In this case they are using the 60-day rollover rule which allows money to be distributed from one account and moved to another within 60 days and still retain its tax-deferred status.
The penalties for missing the 60-day window can be severe and costly. (For more, see: Self-Directed IRA Exemption: Advisors Take Note.)
The 60-day rollover rule says that when a client takes a distribution from a traditional IRA account, or a qualified retirement plan account like a 401(k), they have 60 days to deposit the amount into another IRA or qualified plan account. If this 60-day window is missed the amount of the distribution becomes taxable and would be subject to an additional 10% penalty if the client is under 59½.
Even with a Roth IRA the 60-day rule is important. While the distribution may not be taxable, the tax-free nature of the Roth could be jeopardized.
The preferred method to transfer IRA or qualified plan money is a direct trustee-to-trustee transfer. This means that the money goes directly from the plan sponsor to the IRA custodian or from the old IRA custodian to a new one.
This type of transfer is not always available for a distribution from a qualified plan. That is generally not an issue when moving from one IRA custodian to another. In some cases, the old custodian may send a check made out to the new custodian for the benefit of the client for them to deposit with the new custodian. This is still considered a direct trustee to trustee transfer. (For more, see: How to Educate Clients on Self-Directed IRA Risk.)
Additionally, while there are limits on the number of 60-day rollovers permitted in a year, this does not apply to a trustee to trustee transfer.
Previously the only way to appeal the taxes or a penalty on a distribution that missed the 60-day window was to obtain a private letter ruling from the IRS that was specific to your client’s situation. In 2015 the fee for these private letter rulings was increased to $10,000, a hefty price tag.
Recently the IRS has begun allowing the institution receiving the distribution to use a self-certification process. There is even a model letter from the IRS that your clients can use to request a waiver. (For more, see: IRAs: Advantages, Disadvantages and Which One is Right for You.)
The waiver is not automatic and there must be a good reason that the transfer was not completed within the 60-day timeframe. According to Financial Planning, currently there are 12 acceptable reasons:
It is important that your client’s rollover is for a valid purpose in order to qualify for a waiver if the 60-day rule is missed. An example of an invalid rollover is one that violates the once-per-year rule on IRA rollovers. This rule applies to all IRA accounts in aggregate including traditional, Roth, SEP IRAs and SIMPLE IRAs. This rule does not apply to direct trustee-to-trustee transfers. (For more, see: How to Avoid IRA Sabotage.)
Another example is the fact that a non-spousal beneficiary can never use the 60-day rollover rule and there would therefore be no relief if the 60-day timeframe was missed.
For any number of reasons, clients may choose to or be forced to use a distribution from a qualified retirement plan or an IRA in order to complete a rollover to another account. The new IRS self-certification rules make obtaining a waiver for missing the 60-day window easier and less costly.
The rollover itself must be for a valid reason in order to be considered for a waiver. The best practice, whenever possible, is to have your clients use a direct trustee-to-trustee transfer to avoid the 60-day rule altogether. (For more, see: Estate Planning Tips for 401(k)s and IRAs.)