Moving retirement funds from one account to another is a common practice, especially among individuals who may be making employment changes or exploring alternative investment paths, like self-directed IRAs.
IRA transfers and rollovers are two of the most popular processes to move retirement funds while maintaining tax benefits, but what’s the difference, and which one is right for you?
When comparing an IRA transfer vs rollover, the best thing to consider is the type of retirement account you have and where you’d like to move funds. However, there are also other considerations to keep in mind to help you select the right type of rollover and avoid penalties.
Here is everything you need to know about an IRA transfer vs. a rollover.
An IRA transfer is when you move retirement funds from one IRA account to another, typically from one custodian or trustee to another trustee.
This process is popular among individuals who want to
- Centralize their retirement funds by moving all accounts to a specific custodian or trustee
- Open an IRA account with a trustee or custodian that better supports their investment goals
- Take advantage of self-directed IRA (SDIRA) opportunities, but their current custodian doesn’t offer SDIRA accounts.
You can transfer IRA funds to new or existing IRAs, and there is no limit to the number of times you can complete a transfer. However, it is important to remember that a true transfer must take place between like accounts.
For instance, if you have a traditional IRA, a transfer would mean you are moving those funds to another traditional IRA, not a Roth IRA. That’s because traditional and Roth IRAs are taxed and regulated differently by the IRS.
A rollover IRA is when you move funds from one qualified or employer-sponsored retirement account to an IRA. Investors can roll over funds from one account to another within the same financial organization. They can also move funds from one custodian or trustee to another.
Because employer-sponsored account contributions are often made with pre-tax dollars, funds typically move to a traditional IRA account. Like transfers, funds from a traditional retirement account can be rolled over to a Roth account, but this is considered a conversation and will come with income tax obligations.
Rollovers are most popular among individuals making career changes that no longer leave them eligible for participation in their employer-sponsored retirement account, like a 401(k). For example, many people often choose to roll over a 401(k) to a self-directed IRA.
Rollovers can also provide investors with increased access to investment assets and control when compared to many qualified investment accounts.
In general, there are two types of rollovers we’d like to discuss: direct vs. indirect rollovers.
Like a transfer, a direct rollover is when funds move “directly” from one account to another. However, the account holder is never in direct possession of the funds.
During an indirect rollover, the account holder takes possession of the funds in the account. This rollover type is often called a 60-day rollover because the account owner has 60 days to put the funds (in their entirety) into an IRA account.
What’s the Difference Between an IRA Transfer and Rollover?
The three primary differences between an IRA transfer and a rollover:
IRA transfers can only occur between like accounts: traditional IRA to traditional IRA or Roth IRA to Roth IRA.
Rollovers take place between two different types of accounts: an employer-sponsored or qualified retirement account, like a 401(k) or a SEP IRA, to an IRA account.
During a transfer, funds typically move from one custodian or trustee to another. The account holder never takes possession of the funds and therefore is not responsible for anything more than completing the appropriate forms.
Rollovers can be direct or indirect. A direct rollover is similar to a transfer in that the investor never takes possession of the funds. During an indirect rollover, the investor receives the funds from the original custodian or trustee and has 60 days to deposit them into an IRA account.
IRS reporting requirements
Transferring an IRA has no tax implication, as the funds are simply moving from one account to another similar account. (Note that’s not the case if you are really performing a conversion and are thus moving funds to a different type of IRA account, such as transferring from a traditional IRA to a Roth IRA.)
When you roll over funds, you’re moving funds from one type of account, like a 401(k), to another type of account, like a traditional or Roth IRA. In this case, you must report the transaction to the IRA at tax time.
The good news is that as long as the rollover is completed properly, there are no tax implications. The exception is, of course, if you move funds between dissimilar accounts, like a traditional 401(k) to a Roth IRA account.
The IRS does not place limits on transfers, and you reserve the right to transfer money from one IRA to another as frequently as you’d like. However, the IRS does limit rollovers to one per year unless you meet one of the following exceptions:
- Conversions, or rollovers from a traditional IRA to a Roth IRA
- Trustee-to-trustee transfers to another IRA
- Plan-to-plan rollovers
- IRA-to-plan rollovers
- Plan-to-IRA rollovers
How to Avoid the Early Withdrawal Penalty
There are no early-withdrawal penalties associated with IRA transfers or direct rollovers. That’s because you’re simply moving funds from one account to another without taking a distribution.
If, however, you take an indirect rollover and do not deposit funds into the new account within 60 days, the IRS will consider it a distribution (withdrawal of funds). The same is true if you deposit only a portion of the funds. In either case, you’d need to pay taxes on the funds not deposited (if it’s a traditional IRA). In addition, if you have not reached age 59 ½, you may also be charged an early withdrawal penalty.
As such, the best way to avoid early withdrawal penalties is to select a direct rollover when possible. However, if it’s not possible, be sure to complete your rollover within 60 days of initially withdrawing or receiving the funds.
Is a Transfer or Rollover Right for Me?
Whether or not a transfer or rollover is right for you depends on the type of account you have and the type of account you intend to open or move funds to.
A transfer is likely the best option if you are moving funds between like-account IRAs. Transfers offer a straightforward way to move funds between IRA accounts and are not held to IRA limits or reporting requirements.
If you are moving funds from a qualified or employer-sponsored account, then a rollover is the best option.
Either way, both options present pros and cons for your retirement goals
Pros of a Transfer or Rollover
- Can help you take ownership of an employer-sponsored retirement account if you leave your current employer for any reason
- Often provides more investment opportunities as IRAs generally offer investors increased asset selection
- Provides more control to individuals seeking to make decisions about how and where their funds are invested. This can include the opportunity to move funds into a self-directed IRA account.
Cons of a Transfer or Rollover
- Rollovers must be reported to the IRS and can have tax implications if they are not completed within 60-days
- Rollovers are limited to one per year except under certain circumstances
- Consistently transferring funds between IRAs can impact long-term portfolio growth
- Transfers and rollovers require account holders to move funds between like accounts, i.e., between traditional retirement accounts or between Roth accounts. Funds moved between two types of accounts can have tax implications.
IRA transfers and rollovers both present common ways to move and manage retirement funds. Transfers are an excellent option to move funds from one IRA to another to diversify your retirement strategy or consolidate your accounts.
Rollover IRAs are often the best option if you want to move funds from a qualified retirement account to an IRA. This type of move can help you diversify your retirement strategy like a transfer by tapping into traditional and alternative assets not always available to qualified account holders.
Rollovers can also help you avoid any taxes, penalties, or fees if you leave your employer, and they remit your retirement account savings to you at the termination of your employment.
If you’re not sure which option is right for you, or if you’d like to leverage retirement funds to open a self-directed IRA account, contact Horizon Trust today. We can help you make sure your transfer or rollover is completed in a timely and appropriate fashion and that your new account is set up for success.