The 2-Year Rule All SIMPLE IRA Owners Should Know

By Joe Cicchinelli, IRA Technical Expert
Follow Me on Twitter: @JoeCiccEdSlott

If you participate in your employer’s SIMPLE (Savings Incentive Match Plan for Employees), you need to be aware of the “2-year rule” that applies when moving your SIMPLE IRA money to another IRA.

You have to wait two years before you can move your SIMPLE IRA to a non-SIMPLE IRA. The two years starts on the day when money was first deposited into your SIMPLE IRA. So, during the first two years, you cannot move SIMPLE IRA funds to a non-SIMPLE IRA, such as your traditional IRA. You also cannot convert your SIMPLE IRA money to a Roth IRA during this time, nor can you roll over those funds to a company retirement plan, such as a 401(k).

The 2-year rule applies to both rollovers and transfers. So, if you take a distribution from your SIMPLE IRA in the first two years, you are not allowed to roll it over to a non-SIMPLE IRA because the distribution is not rollover eligible. And don’t think you can get around the rule by doing a direct (trustee-to-trustee) transfer. The IRS says the 2-year rule also applies to direct transfers between IRAs.

If you wrongly move your SIMPLE IRA funds (by rollover or transfer) during the first two years, the IRS will not treat the transaction as a tax-free rollover or transfer. Instead, the IRS says it’s treated as a taxable distribution out of your SIMPLE IRA, and a regular contribution to the receiving IRA. If the dollar amount is more than the annual IRA contribution limit (e.g., $5,500 for 2015) then the excess amount will be treated as an excess IRA contribution that’s potentially subject to penalties if it’s not timely corrected.

What if you’re not happy with the investments in your current SIMPLE IRA? Does that mean you can’t move that money during the first two year? Luckily, the answer is no. You can move your SIMPLE IRA to another SIMPLE IRA with a different custodian at any time (no 2-year-rule applies in that case).