If you are a mid-career professional, chances are you have switched jobs a few times, and considered rolling over funds from your ex-employer retirement plan. So, here you go: In this video, I will present to you the difference between a “Direct” Rollover and an “Indirect” rollover.
“Direct” rollover is just what the name says. It is direct. Your money moves from a retirement account at one custodian to a new retirement account at a different custodian. You will not touch the money at all. Sometimes, this is also referred to as trustee-to-trustee as well.
For example, let’s say your old employer retirement plan is with Empower Retirement. And, let’s say you want to move this money to an IRA at TD Ameritrade. And, you want to make sure this is a non-taxable event.
The easiest and least risky way to do this is by doing a “DIrect” Rollover.
Here is what you need to do.
Simply open a Retirement account at TD Ameritrade. And, instruct Empower – to liquidate your positions and write a check to the receiving institution. Make sure Empower lists your name and your TD Ameritrade account # on the check and then sends the check directly to TD Ameritrade.
Yeah, the process might take a few weeks, but if you are working with a financial advisor, Your advisor will do the paperwork, obtain required signatures from you, work with your receiving institution to initiate the process on your behalf.
If you are doing this yourself, you might have to do the paperwork, work with the receiving institution to help you with the “Direct” rollover.
One point to remember is: although this direct rollover is not a taxable event, you may receive a 1099-R form in January of the following year. Do make sure to review the 1099-R and ensure the form is correctly coded that this transfer is, indeed, a non-taxable transfer.
Now, indirect rollovers – They are totally different. You take the distribution of the funds first, and then, to make the distribution a non-taxable event, within 60 days, you deposit the funds back into a target retirement account.
In other words, you are taking full responsibility that the deposit is done within 60 days of the distribution and that this is a non-taxable event per IRS rules.
In fact, if you miss the 60-day deadline – all the money you received is considered a taxable “distribution”. You will owe taxes on this distribution, and if you are not 59 1/2 yet, you will also have to pay a 10% penalty on the distributed amount.
For this reason, you must be very careful with indirect Rollovers.
And, you will receive a 1099-R in January next year from the source institution. The 1099-R will be coded that you have taken a distribution from your retirement account.
If you have rolled over the funds, the target institution will issue a form 5498 at the end of the year, which is your proof (to IRS) that the rollover was indeed an indirect one and should be treated as non-taxable for tax purposes. You will accordingly note this when you file the tax returns – that the rollover was not taxable.
Hope all this made sense. For more financial tips, please subscribe to my YouTube channel or follow me on Social Media. Thank you!
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