Understanding the New IRS Rules Limiting IRA Rollovers
by David Van Meter, M.S.Acc., Ph.D.
Summary: Starting in 2015, a new IRS rule allows you to make only ONE sixty-day IRA rollover per year. This new rule does NOT affect direct trustee-to-trustee transfers.
A new IRS rule took effect in 2015 that may dramatically change the way that many Americans manage their IRAs.
In the past, the IRS rules allowed a person to make one indirect rollover per year, using the sixty-day rule, for each IRA account that they owned. However, this interpretation of the one-rollover per year rule potentially opened the door to certain abuses, such as using a chain of IRA transactions to more or less permanently borrow money from your IRAs without any penalty.
Indeed, a New York tax-lawyer (Alvan Bobrow) and his wife drew the scrutiny of the IRS by using a chain of back-to-back rollovers to essentially gain access to $65,000 from their IRAs for six months, and then dropped the ball by apparently forgetting to make one of the rollover deposits in a timely manner (you have sixty days, and they took sixty-one days). The IRS audited the couple, and when the case ended up in the Tax Court the judge shocked all parties by looking at the original language of the tax law and disallowing the rather generous IRS interpretation of the rule that allowed the maneuver in the first place.
The Impact of the Ruling on Indirect Rollovers
The court's ruling (Bobrow v. Commissioner, T.C. Memo. 2014-21) now mandates that you cannot make a non-taxable rollover from one IRA to another if you have already made a rollover from any of your IRAs in the preceding 12 months. A second distribution from any of your IRAs in any one year period is now treated as taxable income to be included in your gross income, and if you are under the age of fifty-nine and a half it may be subject to a 10% early withdrawal penalty. In addition, if you did put the funds into another IRA, this could potentially be treated as an excess contribution which could be subject to a 6% excise tax per year as long as the funds remain in the IRA.
No Impact on Direct Trustee Transfers
Fortunately, the Tax Court ruling does not affect direct trustee transfers, because this type of transfer is not considered a rollover under current IRS procedures (Rev. Rul. 78-406). In such a transfer, you never take legal custody of the funds. Now more than ever it is important to consult with your financial and tax advisors prior to moving funds between different individual retirement accounts.
The Potential Impact on IRAs invested in Bank CDs
While the new rules will impact all IRA owners, they promise to particularly inconvenience people who may have opened a number of different IRAs with banks and invested the funds in certificates of deposit, particularly if they are active rate-shoppers. In the past you might simply close out a given IRA when the CD matured, and take the funds to another bank to capture the highest rates available at that time. Now, however, if you desire to move more than one account per year, it may be necessary to initiate trustee-to-trustee transfers, and this may lead to extra paperwork and possibly the imposition of account closure or transfer fees by the banks losing the deposits, thus raising the overall cost of moving the money so as to optimize your returns.
Nonetheless, there may be times that an indirect IRA rollover still becomes necessary. Some plan sponsors may simply put too many barriers in the way to a direct trustee transfer, or impose too high a fee. But we urge you to plan ahead, avoid indirect transfers when possible, and always consult with your financial and tax advisors in order to avoid making a costly mistake with an IRA indirect rollover.
Photo credit: Ken Teegardin @ Flickr