How New IRA Rollover Rules Impact Your Clients

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 Rule

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.

Trustee to Trustee Transfer

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.

The New Rules

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:

  1. An error was committed by the financial institution receiving the contribution or making the distribution to which the contribution relates.
  2. The distribution, having been made in the form of a check, was misplaced and never cashed.
  3. The distribution was deposited into and remained in an account that the taxpayer mistakenly thought was an eligible retirement plan.
  4. The taxpayer’s principal residence was severely damaged.
  5. A member of the taxpayer’s family died.
  6. The taxpayer or a member of the taxpayer’s family was seriously ill.
  7. The taxpayer was incarcerated.
  8. Restrictions were imposed by a foreign country.
  9. A postal error occurred.
  10. The distribution was made on account of a levy, and the proceeds of the levy have been returned to the taxpayer.
  11. The party making the distribution to which the rollover relates delayed providing information that the receiving plan or IRA required to complete the rollover, despite the taxpayer’s reasonable efforts to obtain the information.
  12. The late rollover contribution must be made “as soon as practicable” after the reason or reasons for the late rollover no longer prevent the client from making the rollover contribution.

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.

The Bottom Line

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.)