That is because, before the 2001 Tax Act, IRA accounts generally could not be rolled over from an IRA into a qualified plan, such as a 401(k) qualified retirement plan, a 403(a) annuity plan, a 403(b) tax-sheltered annuity, or a 457 government plan.

It is now allowed and can provide some interesting planning opportunities. However, there is a possible fly-in-the-ointment. Qualified plans are not required by law to accept funds from IRA accounts, so you first need to check with the plan administrator to see if your plan will accept IRA funds before attempting any of the strategies outlined below. The rollovers are also limited to the taxable portion of the IRA, thus the nondeductible portion of the contributions cannot be rolled into a qualified plan.

Early Retirement – Generally, except for some special exceptions, if a taxpayer withdraws funds from an IRA account before reaching the age of 59½, the withdrawal is subject to a 10% early withdrawal penalty (in addition to normal tax). However, a withdrawal from a qualified plan made after age 55, accompanied by separation from employment service, is exempt from the penalty.

Thus, the funds can be withdrawn 4½ years earlier without incurring the 10% penalty. Although penalty-free early retirement withdrawals are available from IRAs, they include some withdrawal limitations that do not apply to the age 55 exception, which provides more flexibility.

Nondeductible IRA Contributions – As we mentioned earlier, the portion of a Traditional IRA that represents nondeductible IRA contributions (and which are nontaxable) cannot be rolled into a qualified plan. And, if distributions were taken from an IRA that includes nondeductible contributions, you don’t receive the nontaxable portion first. Instead, any distribution is prorated on the basis of the deductible and the nondeductible portions.

We can, however, take the entire nondeductible contribution out of the IRA virtually tax-free and penalty-free if we roll over the taxable portions (the law precludes a taxpayer from rolling the nondeductible portion) of the IRA into a qualified plan, leaving only the nondeductible portion in the Traditional IRA. In addition, if a distribution includes both taxable and nontaxable amounts, the amount rolled over is treated as coming first from the taxable part of the distribution. Thus, when a distribution is subsequently made from the IRA, all funds (except for earnings after the rollover) are nontaxable and not subject to tax or the 10% penalty.

Roth Rollovers – Using the same scenario from the nondeductible IRA above, if the taxpayer otherwise qualifies, he or she could (after the waiting period described below) roll the nontaxable portion into a Roth IRA with virtually no tax liability. Thus, the future earnings from the Roth IRA would end up being tax-free and that portion of the former IRA would pass to the beneficiary tax-free.

As with everything, there are some rollover rules. Generally, if a taxpayer makes a tax-free rollover of any part of a distribution from a Traditional IRA, he or she cannot, within a one-year period, make a tax-free rollover of any later distribution from that same IRA. The taxpayer also cannot make a tax-free rollover of any amount distributed, within the same one-year period, from the IRA into that which he or she made the tax-free rollover. The one-year waiting period can be avoided by using Trustee-to-Trustee Transfers instead of a rollover. It accomplishes the same objective, but because the taxpayer never had access to the funds, it is not subject to the one-year waiting period required between rollovers.

Please call this office so we can assist you in developing a plan to fit your particular circumstances.