If you choose to have your employer make a direct rollover of an eligible rollover distribution to an IRA or another qualified plan, your avoid tax on the payment and no tax will be withheld. If you are changing jobs and want an IRA direct rollover plan of the new employer, make sure that the plan accepts rollovers; if it does not, and choose an IRA direct rollover to a traditional IRA.

When you select the IRA direct rollover option, your employer may transfer the funds directly by check or wire to the new plan, or you may given a check payable to the new plan that you deliver.

In choosing a direct rollover to a traditional IRA, the terms of the payee-employer’s plan will determine whether you may divide the distribution among several IRAs or whether you will be restricted to one IRA, For example, you may want to split up your distribution into several traditional IRAs, but the employer may force you to select only one, After the direct rollover is made, you may then diversify your holdings by making tax-free trustee-to-trustee transfer to other traditional IRAs.

You may elect to make a IRA direct rollover of part of your distribution and to receive the balance. The portion paid to you will be subject to 20% withholding and is not eligible for special averaging. The IRS allows plan administrators to bar a partial direct rollover if the rollover amount is less than $500.

An IRA direct rollover will be reported by the payer plan to the IRS and to you on Form 1099-R, although the transfer is not taxable. The direct rollover will be reported in Box I of Form 1099-R, but zero will be entered as the taxable amount in Box 2a. In Box 7, Code G should be entered if the direct rollover was to an IRA and Code H if to another qualified employer plan or to a tax-sheltered annuity.

IRA Rollover Contribution Limits

There is customarily no limit on the amount of money that can be rolled over into a Rollover IRA.  By keeping these funds separate from a regular IRA account, they are maintained apart from any regular annual contributions that you as an individual may contribute to your IRA.

All of this is important because if the contributions from an employer are mingled with personal contributions, that money cannot be rolled into another employer’s plan.  It is also important to note that money going from one type of IRA to another does not need to be reported to the IRS as taxable and is not considered a distribution.  If the account holder receives assets – meaning a portion of your money is paid to you – then the whole situation changes and the account holder is likely to have some level of tax liability.

Why Choose an IRA Direct Rollover?

The key here is that the money goes from the manager of one account to the manager of another – meaning that it’s a fund to fund transfer.  Regardless of the intention, if the money comes out of the fund to the account holder, it becomes a distribution.  To avoid any possible penalties, the exchange has to occur between the accounts.

When you fill out your IRA rollover forms, you’ll see an option to either take the account balance as a cash distribution, roll the funds directly into another IRA or move your investments to a new employer’s plan.  If you elect to take the cash distribution, you can expect to be charged an early withdrawal penalty (unless you’re over age 59 ½) and the funds you take out will be treated as regular income on your annual tax return.

How Does an IRA Direct Rollover Occur?

In most cases, an IRA rollover will occur when an employee changes jobs (assuming the rules of the fund entitle the account holder to a distribution from the old plan).  By doing an IRA rollover to a traditional IRA, the funds will be transferred tax-free.  This means that, ultimately, the funds can grow on a tax-deferred basis.  In addition, this means that the funds are under the direct control of the employee and all investment decisions and distributions will be decided by the employee.

Setting up an IRA direct rollover is relatively easy – all you need to do is set up a new IRA with the account provider of your choice and then complete some simple paperwork provided by the company.  The IRA rollover transfer will mostly take place between the two account providers, and may include sending a fund wire transfer or mailing a check to the receiving plan, the trustee or the custodian of that plan.

To begin the process, you’ll need to contact the manager of the new IRA – not the old one.  First, ask if the new IRA is active and ready to receive the rollover.  This may seem like an obvious question, but it’s one of the most common mistakes that occur when requesting a rollover.  The danger is that if the account isn’t ready, the money may come directly to you, which drastically changes the tax status of the money.  This is, of course, what you are trying to avoid by requesting an IRA direct rollover.

Now, once you know that the target IRA is ready to receive your funds, tell the manager that you want to perform an IRA direct rollover.  This will begin a very specific process wherein the new manager will contact his or her counterpart at the old IRA and begin to transfer the funds.  In addition to making this request, you’ll need to fill out some IRA rollover forms detailing how the transaction should occur.  Each institution will have slightly different forms, but the managers should be able to guide you as you fill them out.

Once your permission is given, the new manager will complete the request and the funds will be transferred to the new account by the most convenient means.  This may be by check or via an electronic funds transfer.  The key is that you, as the account holder, never take possession of the money.  Of course, the money technically remains your money, but it will be handled entirely by your agents, the managers of both the IRA accounts.  After a reasonable time, be sure to contact the manager of the target IRA to make sure that the IRA rollover transfer is finalized and the new funds are where they’re supposed to be.

In addition, the account managers will have to file some paperwork with the IRS, but the managers will take care of this on their own.  In some ways, this paperwork is the key to understanding why choosing an IRA direct rollover is so important.  The IRS considers an IRA direct rollover to be a reportable event, but not necessarily a taxable one.  This is what you want – an event that doesn’t require you to pay taxes, which is exactly what you’ll get with a properly executed IRA direct rollover.

There is one type of IRA direct rollover that’s slightly different – a traditional IRA rollover to Roth IRA.  This distinction occurs because, rather than contributing to a Roth IRA before taxes, you contribute to a Roth IRA after taxes.  If you are rolling over your non-Roth IRA to a Roth IRA, then taxes must be paid on that money.  This isn’t necessarily a bad thing, as your particular financial situation may make it advantageous to pay the tax burden on your retirement investments up front.

If this may be the case for you, be aware that the laws governing contributions to Roth IRAs have changed considerably in 2010.  If you’re considering an IRA direct rollover to a Roth IRA, speak with your tax accountant about how this will affect you and whether or not it’s a good choice for your investments at this time.

An indirect rollover occurs when you request the managers of your current IRA to send you the funds directly so that you can deposit that money into another retirement account.  The problem with this method is that it changes the tax burden on the money.  You must get that money into a new rollover IRA within a set time – typically 60 days – or the money will be considered a withdrawal and you will be subject to taxes, penalties and withholding.  These fees can be substantial, depending on the amount of the money involved in the IRA rollover.

In most cases, moving your money in a way that changes its tax status from tax deferred to taxable makes little sense.  After all, the reason you opened an IRA in the first place was to get out from under an immediate tax burden, while allowing your money to grow for retirement.  These kinds of accounts were set up to encourage savings and to make it easier for both employers and employees to contribute to them.  An indirect rollover runs the risk of changing this tax status that you were working so hard to maintain.

Fortunately, there is a very easy way to keep the tax deferred status that you want.  Contact the manager of the new (or target) IRA and direct him or her to perform an IRA direct rollover.  Be sure to use those exact terms – IRA direct rollover.  This specific wording will initiate a specific process where the money is sent from one IRA into the new IRA.  You will never receive a check or see the funds deposit into your bank account when you begin this type of transaction.

Although you, as the account holder, won’t ever hold the money, you will retain all the benefits of your investments when you cash out the account.  To begin the process, the manager of the target rollover IRA will contact his or her counterpart at the established IRA and make all the necessary arrangements to move the money between accounts.  The transfer may occur in the form of a wire transfer, a check or whatever instrument is most convenient.  The main thing to remember is that the money does not ever come into your hands.

The IRS considers an IRA direct rollover to be a reportable event, but not a taxable one.  For this reason, an IRA direct rollover is generally the most advantageous way to move your money.  If you choose the indirect method, you’re risking the tax status of your investments, as well as the amount you’ll lose to mandatory withholding.  Basically, you’d better have a very good reason to choose the indirect option.  If your consolidation of retirement funds is an attempt to maximize returns, doing anything other than an IRA direct rollover will defeat the whole purpose behind having an IRA.

For example, if you elect to do otherwise – perhaps you choose an indirect transfer where you receive your funds as a check – you risk causing great confusion for both you and the tax man.  This may open the door to a lot of problems because, in the eyes of the IRS and according to current IRA rollover rules, a direct rollover is very different from any other kind of money transfer.  And when you’re dealing with the IRS, you want your intentions to be as clear as possible.

When your money is being moved from one plan to another without ever coming into your hands, the transaction is typically defined by the IRS as an IRA direct rollover.  Additionally, this kind of transaction may be called a trustee to trustee transfer or trustee to trustee rollover.  If you’re moving your funds to a new IRA, think IRA rollover transfer – not distribution – as this is the best way to protect your money from unnecessary taxes or penalties.

To keep your retirement funds and their tax deferred status intact, you’ll want to avoid any hint of a distribution.  This can occur when the money comes out of your old, established plan and into your hands.  This kind of transaction is considered to be a taxable event by the IRS and should be avoided.  If, for example, you’re cashing out your fund and heading to some tropical island with the money, you’re performing a distribution and can expect to pay taxes.  While it might be nice to receive a big check up front, this type of transaction will not protect you and your money from a tax burden.

Although the indirect IRA rollover is a perfectly legitimate way to do your rollover, it’s not the best way to move your money to a new IRA.  In an indirect IRA rollover, your original retirement fund would be “cashed out” and a check would be issued to you in your name.  Even if you then turn around immediately and deposit the check into a new retirement plan, you’ll still lose money to mandatory withholding requirements, which could eat away up to 20% of your initial account balance.

To perform an IRA direct rollover, talk to the fund manager of your newest IRA and ask him or her to execute a direct rollover specifically.  Be sure to use the exact terms “direct rollover” when you talk to the manager of the new or target IRA.  This will minimize your risk of any taxes, withholding or penalties, and will ensure that your money keeps growing – tax deferred – until you need it later in life to fund your retirement.

A rollover IRA is a safe and secure vehicle for investment that is supported by the government as a means of helping people prepare for their retirement. In the current turbulent economic landscape, this investment option is highly attractive. In addition, the rollover IRA offers a wider range of options and choices than the traditional 401k, and also provides significant opportunities to increase your profit margin and enhance your savings.

The rollover IRA also offers very straightforward account keeping. The process involved in managing a rollover IRA is far more streamlined than other forms of retirement investment. For example, the IRA direct rollover enables you to consolidate your money into one efficient account and keep a close track on its performance. Pension plans, such as the employer-controlled 401k, can become very fragmented and confusing if you move through various positions and companies throughout your life. Changing jobs can be the perfect opportunity to consolidate and set up a rollover IRA.

Perhaps the biggest advantage of the IRA direct rollover is that it offers greater access to your funds than your employer’s 401k or 403b plan. There are a range of conditions that exist that will enable you to access your money without penalty, if necessary. For example, if you become ill or disabled, if you purchase your first home, or if you incur higher education expenses, you can withdraw IRA funds without penalty.

Another reason that may make an IRA direct rollover right for you is the increased range of investment choices that this pension plan offers. While your 401k may only offer you a return 3 – 5% each year, based on its limited investment options, an IRA direct rollover account offers a higher range of potential return because of its access to a broader range of investment choices.

If you have an interest in investing and are willing to research and look for opportunities to grow your wealth, the IRA direct rollover may just be the perfect vehicle for you. Rather than being confined by your 401k’s enforced investment options, you can actually shop around and find a rollover IRA that focuses on investments that actually interest you. The IRA rollover can also reduce your risk of losing money in a destabilized market, as it allows you to spread your funds over a wider range of investment vehicles, therefore reducing your exposure to risk while maximizing your profit.

If you’re changing jobs, or if you’re approaching retirement, carefully consider the features and benefits offered by the IRA rollover – it may just be the perfect investment choice for you. The IRA rollover provides flexibility, freedom of choice and tax benefits that can boost your retirement savings and start you on the pathway to financial security.