Slott Report Mailbag: I Am Confused About the Roth IRA 5-Year Rules!

By Joe Cicchinelli, IRA Technical Expert

Follow Me on Twitter: @JoeCiccEdSlott

So, another consumer is confused about the Roth IRA 5-year rules. Who isn’t (they are confusing)? We devote an entire pamphlet to it on our online store and have written more than our fair share on the subject on this website since its inception. And still (rightfully so), the Roth IRA 5-year rules are confusing and continue to trip up consumers and less-informed financial advisors.

This week’s Slott Report Mailbag includes an answer to a question on those rules, as well as an inquiry on spousal beneficiary rules and the differences between an IRAs and fixed annuities. As always, we stress the importance of working with a competent, educated financial advisor to keep your retirement nest egg safe and secure. Find one in your area at this link.

1.

I have a qualified Roth 401(k) that I have to withdraw from my company retirement plan when I turn 65 in a few weeks. I had met the 5-year rule on contributions and earnings for the Roth 401(k), it’s deemed “qualified” by the plan, but I now find that if I roll it over to a Roth IRA, the clock starts over. I don’t understand this quirk that I found reading through the IRS guide. It wasn’t mentioned in the plan details or by my financial planner. I thought I had earned access to this money already. I also had planned to continue to contribute to the Roth IRA by converting funds from my traditional 401(k) each year. What are my options?

Answer:
Because your distribution from the Roth 401(k) is qualified (tax-free), those funds go into your Roth IRAs as basis. That basis can be withdrawn anytime without tax or penalty. There’s no 5-year clock that applies to those rollover funds in this example, but a 5-year clock will apply to earnings on those funds. If the earnings are withdrawn from the Roth IRA within five years, they will be taxable.

2.

Hi,

Just trying to help my mother and save her some money. My father passed away, leaving her some properties and a couple of retirement accounts. She is named as beneficiary on all accounts.

What we would like to do is place the money from the CD we closed out, about 25,000, and two IRA’, about 80,000 each, into her IRA just so it is easier to manage. Can we do this all at once without penalties?

Joe

Answer:
Your mother, as a spouse beneficiary of your late father’s IRA, can rollover or transfer the IRA funds to her own IRA. Any non-IRA money she inherited, such as a non-IRA CD or proceeds from the sale of non-IRA properties, can never be put into an IRA. If your mom is under age 59 ½ and needs the IRA money to pay bills, she should not roll over or transfer to her own IRA, but instead leave it as a beneficiary IRA. That way, she won’t be hit with the 10% penalty for early distributions. She should speak with a competent advisor before making any decisions.

3.

My husband and I are both retiring in about a month, and we both have government retirement savings accounts. We are bombarded with financial planners wanting us to roll over our TSP (thrift savings plan) and 401(k) plans into lifetime income annuities. Since neither are FDIC protected, which is safer, IRAs or fixed annuities? The more we research on the subject, the more we are confused. Thanks

Answer:
Please click on the “Find an Advisor” tab on our website to find an Ed Slott trained Elite IRA Advisor in your area. Your decision on the investments of your retirement funds should be based on your individual circumstances and future income needs. For many individuals, the security of an annuity is what is important to them. Be sure you understand all your distribution options and the options available to your beneficiaries, if that is a planning point that is important to you. You also need to understand the costs involved in the annuity. Some annuities cost a lot more than others.