Take the Fear Out of IRA Portability
Halloween is just around the corner, but what may strike fear into the hearts of your staff may be greater than one night of goblins and ghouls. What may frighten them the most is when a client walks into your branch with a note from his CPA or financial professional that says he needs to move his IRA assets from one IRA to another, or even to a different type of IRA.
So what do you do?
Don’t panic. If you don’t process IRA transactions on a regular basis, they can be a little scary. Knowing how to process transactions will help you provide good customer service to your IRA owners and ensure that you report the transactions correctly.
Let’s break down the differences between four common transactions that you may encounter with IRAs.
Transfers
Transfers are one of the easiest ways to move money from one IRA to another IRA of the same type (e.g., Traditional to Traditional, Roth to Roth). IRA owners can transfer IRA assets between two separate financial organizations or between two IRAs held at the same organization. If handled properly, a transfer is neither taxable nor reportable.
When an IRA owner directs a transfer of assets, he does not actually receive the assets for personal use. The check is made payable to the receiving financial organization on his behalf or it is transferred directly from one IRA to another IRA at the same organization.
IRA-to-IRA transfer key characteristics
Between like IRAs
No constructive receipt of assets
No reporting requirements
No withholding requirements
Unlimited number of transfers
IRA owners may also transfer simplified employee pension (SEP) plan contributions held in Traditional IRAs to other Traditional IRAs. And after two years of participation under an employer’s savings incentive match plan for employees of small employers (SIMPLE) IRA plan (beginning with the date of the first contribution), IRA owners can transfer SIMPLE IRA assets to Traditional IRAs (and vice versa).
IRA-to-IRA Rollovers
Another common way of moving assets is through an IRA-to-IRA rollover. IRA owners can also roll over assets between SIMPLE IRAs and Traditional IRAs after they have participated in the SIMPLE IRA plan for two years. With rollovers, the IRA owner receives the distributed assets and then rolls the assets over to an IRA within 60 days. For example, the distributing organization may make the check payable to the IRA owner or deposit the assets directly into his checking or savings account.
Rollover transactions are reported to the IRS. The distribution is reported on Form 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc., and the rollover contribution is reported on Form 5498, IRA Contribution Information.
IRA-to-IRA rollover key characteristics
Irrevocable election required
Constructive receipt of the assets (IRA owners can temporarily use the assets for other purposes)
Reportable transaction
Withholding generally applies
60-day rule (IRA owners have 60 days to complete a rollover)
One-per-12-month rule (IRA owners cannot roll over more than one distribution received within 12 months)
Roth Conversions
An IRA owner may decide to convert their Traditional IRA assets (including SEP contributions) or SIMPLE IRA assets to a Roth IRA. (Although individuals may convert SIMPLE IRA assets to Roth IRAs, they may not complete a conversion until they have participated in the SIMPLE Plan for at least two years.)
Roth conversion key characteristics
Taxable transaction (IRA owners must pay tax on all pretax assets)
IRA owner election required
Reportable transaction on Forms 1099-R and 5498
Two types of conversions: direct conversions (no 60-day rule, reportable transaction) and indirect conversions (60-day rule applies, reportable transaction)
Recharacterizations
A recharacterization is the movement of any current-year contribution, plus the earnings, to another type of IRA. If done correctly, recharacterizations allow IRA owners to “undo” their original contribution and to treat the contribution as if it were made to another type of IRA. For example, a client may want to recharacterize a Roth contribution if she determines that she is ineligible to contribute to a Roth IRA. Or a client may choose to recharacterize a Traditional IRA contribution if he is not eligible to deduct his contribution.
Recharacterizations can only be done directly; IRA owners may not take receipt of the assets and then recharacterize the assets. Recharacterizations must be completed by the IRA owner’s tax return due date, plus extensions. The recharacterization deadline is automatically extended by six months (generally to October 15) for IRA owners who timely file their taxes.
Recharacterization key characteristics
Irrevocable election required
No constructive receipt of assets
Withholding does not apply
Reportable transaction on Forms 1099-R and 5498
Most financial organizations use transaction forms, including Ascensus’ forms and documents, that can help you process these types of transactions—and hopefully take the fear out of IRA portability.
