How to Report 401(k) and IRA Rollovers on Your Taxes

Understanding the ins and outs of 401(k) and IRA rollovers isn’t a walk in the park. The maze of tax implications surrounding these rollovers might seem intimidating to many. However, deciphering the process of reporting these rollovers on your taxes is critical to maintaining the tax-deferred status of your retirement savings and steering clear of penalties. Whisk your worries away as this article guides you step-by-step through the process of correctly reporting your 401(k) and IRA rollovers on your taxes, but it’s still a good idea to consult an experienced financial advisor.

Understanding 401(k) Rollovers

A 401(k) rollover lets you move money from an employer-sponsored retirement plan into another qualified account without triggering taxes, as long as you follow IRS rules. Most people choose to roll their balance into an IRA or a new employer’s 401(k) when they change jobs, which helps them keep their savings in one place and maintain tax advantages. The key benefit is that your retirement funds continue growing tax-deferred, and you avoid owing taxes in the year of the rollover.

There are two main ways to complete a rollover: direct and indirect. A direct rollover is the simplest and safest option, where the funds are transferred straight from your old plan to your new one. Because the money never touches your hands, you don’t face withholding requirements or risk accidentally creating a taxable event. Indirect rollovers, however, require the plan to send the funds to you first, and you must deposit the full amount into a new account within 60 days to avoid taxes and penalties.

If you choose an indirect rollover, it’s important to know that your plan administrator must withhold 20% for federal taxes—even though the rollover is meant to be tax-free. To complete the rollover without owing taxes, you’ll need to deposit the full amount, including the withheld portion, into your new account and wait to recoup the withholding when you file your tax return. Because of the added complexity, most taxpayers opt for the direct method to ensure their transfer isn’t taxed or penalized.

Reporting your rollover correctly at tax time is essential. Even though qualified rollovers aren’t taxed, they must still be reported on your return using Form 1040 and the information provided on Form 1099-R from your plan. The IRS uses these forms to confirm that the withdrawal wasn’t a taxable distribution, so accuracy matters. If you’re unsure how to document the rollover or choose the right strategy, a financial advisor or tax professional can help you manage the transition smoothly while protecting your retirement savings.

Types of Rollovers

There are two primary types of rollovers, used to move retirement savings from one tax-advantaged account to another: direct and indirect.

A direct rollover is often the preferred method for transferring your 401(k) funds. In this process, the money moves directly from your old 401(k) plan to a new retirement account, such as an IRA or another employer’s 401(k) plan. This method is advantageous because it avoids any immediate tax implications or penalties. The funds are transferred electronically, ensuring that your retirement savings remain intact and continue to grow tax-deferred. By choosing a direct rollover, you maintain the tax-advantaged status of your retirement savings, which can be crucial for long-term growth.

Similar to direct rollovers, trustee-to-trustee transfers involve moving your retirement funds directly between financial institutions. This method is particularly beneficial if you are looking to consolidate multiple retirement accounts into one. By allowing the trustees to handle the transaction, you minimize the risk of errors and ensure compliance with IRS regulations. This hands-off approach not only streamlines the process but also provides peace of mind, knowing that your retirement savings are being managed efficiently.

An indirect rollover, on the other hand, involves a more hands-on approach. In this scenario, you receive a check for the balance of your 401(k) account, which you then have 60 days to deposit into a new retirement account. While this method offers more flexibility, it also comes with potential pitfalls.

The most significant risk is the mandatory 20% withholding for taxes, which your previous employer is required to deduct from the distribution. If you fail to deposit the full amount, including the withheld portion, into a new retirement account within the 60-day window, you may face taxes and penalties on the distribution.

How to Correctly Report Your Rollover

A couple doing their taxes and trying to calculate the impact of their 401(k) to IRA rollover

Reporting a rollover on your tax return can be complicated but it is pretty straightforward if you understand how it works. It involves documenting the distribution and rollover on IRS Form 1040. If executed correctly, a rollover could potentially prevent additional tax liabilities. Here’s a simple three-step guide:

Report the total distribution from an old retirement account on line 4a of Form 1040 and a distribution from an old 401(k) on line 5a. You’ll find the information you need to do this on the Form 1099-R you receive from the old retirement account.
Document the taxable amount of the distribution on line 4b or 5b, depending on whether you rolled over an IRA or a 401(k) account. This amount is typically zero if a direct rollover was completed or the entirety of an indirect rollover was rolled over within the 60-day window.
Keep in mind the 60-day rollover rule for indirect rollovers. Any amount not deposited into a new retirement account within 60 days is considered taxable income and should be reported on line 4b.

Note that if there were any federal or state taxes withheld from the old retirement account amount, those need to be reported as well. Federal withholding taxes are reported on Form 1040 line 25b. If you’re itemizing deductions, the state withholding taxes would go on Schedule A of your 1040.

And remember, a financial advisor can be your guiding light in this process, helping you understand the nuances of IRS Form 1040 while ensuring the rollovers are reported correctly.

How Long Do You Have to Report the Rollover?

You must report a rollover on your tax return for the year in which the distribution and transfer occurred. Even though a properly completed rollover isn’t taxable, the IRS still requires you to document it on Form 1040, using the details provided on Form 1099-R from your retirement plan. This ensures the agency can verify that the funds were moved into another qualified account rather than taken as a withdrawal.

If you completed an indirect rollover, timing becomes especially important. The IRS gives you 60 days from the date you received the distribution to deposit the full amount into a new retirement account. Missing that deadline means the transfer is treated as a taxable distribution, and if you’re under age 59½, you may also face a 10% early withdrawal penalty. When in doubt, keeping good records and consulting a tax professional can help you ensure everything is reported accurately and on time.

What Is the 60–Day Rollover Rule?

The 60-day rollover rule is the time you have to invest the funds you received from your old retirement account in an indirect rollover. Miss this deadline and the IRS considers the distributed funds as taxable income. In addition, the full amount of the rollover must be contributed to the new retirement account, even if there were taxes withheld when you got the distribution, which commonly occurs. Remember, implementing this rule correctly could be a significant game-changer for your retirement savings.

Bottom Line

A couple excited for retirement after correctly rolling over their retirement account and calculating their taxes.

Navigating the complexities of reporting 401(k) and IRA rollovers isn’t the easiest of feats, but understanding the process and taking appropriate steps can potentially maintain the tax-deferred status of your savings and keep unnecessary taxes and penalties at bay. These steps, much like keys on a keychain, include reporting rollovers in the year they occurred, understanding the distinction between direct and indirect rollovers and adhering to the 60-Day Rollover Rule.

Tips for Tax Planning

Investing is hard enough without having to figure out how to deal with the tax complications of your returns or rollovers. That’s where a financial advisor that specializes in tax planning can help. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
You can use a tax income calculator to help you see what your potential tax obligation is going to be, if you know the potential tax consequences of your investment choices.