The Individual Retirement Account (IRA) is the most important building block in your retirement plan. This is because of the significant tax benefit you will receive if you invest your money within an IRA.

Congress created the IRA in 1974 to provide tax incentives for Americans to save more for their retirement. There are a number of different types of IRAs (Traditional, SEP, SIMPLE, Self-Directed, and Roth). The most common is the Traditional IRA.

How a Traditional IRA works

• Money contributed to an IRA is not taxed that year.

• Interest earned on these contributions is not taxed as long as it remains within the IRA.

• The contributions and interest are taxed when they are taken out of the IRA.

The impact of investing in a Traditional IRA is that your money will grow faster than if you invest your money outside of an IRA. To take advantage of the Traditional IRA tax benefits, you should understand its rules.

Rollover & Transfer Rules

Knowing the IRS definitions of rollovers is important, as it allows you to manage your retirement accounts not only effectively, but also with respect to all laws.  Keep in mind that the IRS has no sense of humor – things will be done their way, or no way at all.  There is no “highway” option, as the movie line goes – there is no variation in their enforcement of IRA rollover rules.  Understanding IRA rollovers from the IRS’s view will save you a lot of grief – not only on tax day, but when you finally retire as well.

In order to understand what the IRS thinks about direct rollovers, you need to first understand something about their first cousin – indirect IRA rollovers.  An indirect rollover occurs when the funds from your old retirement account are cashed out and put into your hands.  It doesn’t matter what your intentions are for that money.  You may intend to immediately put it into another IRA or you may have other intentions – the IRS doesn’t care.

Fees, taxes and penalties

Any time you get your hands on money from a retirement account, the door opens for withholding fees, taxes, and penalties.  Of course, there are ways to reduce – or even eliminate – these financial burdens, but the better way to manage them is to avoid them altogether.  The best way to do that is to use the IRS defined IRA direct rollover.

Basically, the IRS defines an IRA direct rollover as the transfer of money from one retirement account directly to another.  While the account holder is legally entitled to the money, he or she never gains possession of the money in a direct rollover.  This is the crucial difference.  By moving money from one retirement account directly to another, the tax-deferred status of the money is maintained (except in the case of a Roth IRA rollover).  This is the outcome that the IRS approves of, and that you, as account holder, want your money to have. It is, after all, the reason you have retirement account in the first place.

Once you determine how much of your money you want to transfer from one account to the other, you’ll need to contact the manager of the account where you want the money to go (called the target account) and request an IRA direct rollover. This person will then contact his or her counterpart at your old IRA or retirement account.  They will then make any necessary arrangements to transfer the money between the two accounts without your intervention.

Of course, there are some intricacies about when and how much money can be transferred, but one or both of the account managers should be able to advise you on those details.

Transferring money

The take home message here is that the preferred way to transfer money from a retirement account is with an IRA direct rollover. In rare cases, there may be special terms or conditions under which you may want to perform an indirect IRA rollover, but you should do this only under the guidance of a qualified financial professional.


RJG Financial & CPA Services focuses on providing education and information to help you understand retirement income and CPA guided tax planning planning in your retirement options.