Executing a Year-End IRA Rollover? Beware Penalty Traps

by Prof. Robert Bloink and Prof. William H. Byrnes

As the 2024 tax year comes to a close, clients are inevitably scrambling to execute last-minute retirement related transactions prior to the close of the year. While there is no December 31 deadline for completing IRA rollover transactions, many clients will want to get the ball rolling before the new year hits. Many reasons exist for executing rollovers, including a desire to simplify planning by consolidating accounts or starting a new job in the new year. Clients who are considering IRA rollovers in the next couple of weeks should be aware of the often-confusing rules governing rollovers that are executed at the turn of the calendar year. Mistakes in timing can lead to significant penalties.

End-of-Callender Year Rollover Rules

Clients should remember that nothing prevents them from rolling over a distribution taken in 2024 in 2025. Clients should, however, still remember to watch the timing and satisfy the 60-day rule. The funds must be deposited into the receiving IRA no later than 60 days after they are distributed from the original IRA, or the transaction will be taxable.

Reporting the transaction can also cause confusion. Although the IRA custodian will report the transaction in a 2025 Form 5498, the client reports the distribution and rollover on their 2024 tax return. That’s true even if the funds are not deposited into the receiving IRA until January of 2025.

Clients should also remember that they're only permitted to execute one rollover for each 12-month period. The fact that a new calendar year has begun does not automatically mean that the client is eligible to execute a rollover. For example, if the client executes a rollover on December 5, 2024, they cannot execute another rollover until December 6, 2025.

This one-rollover-per-12-month rule applies regardless of the number of IRAs the client owns. Clients who execute more than one rollover in a 12-month period must pay taxes on the amount improperly rolled over. They may also be subject to the 10% early withdrawal penalty if no exception exists.

Impact of Rollovers on Year-End RMD Obligations

While there is no hard December 31 deadline for executing a rollover transaction, clients should be aware that outstanding rollovers can impact their year-end RMD obligations. Individuals who have reached their required beginning age (currently, between ages 70 ½ and 73, depending on the client’s year of birth) must take a year-end distribution or incur penalties.

When takes a distribution that is meant for rollover before the end of 2024, but the funds are not deposited into the receiving IRA until 2025, those amounts must be included when calculating the client’s 2024 RMD obligation. Failure to include the rollover funds can result in penalties.

SECURE 2.0 did reduce the penalty for missed RMDs, but penalties do still exist. Under pre-SECURE Act law, clients who missed or undervalued RMDs from traditional retirement accounts were subject to a penalty equal to 50 percent of the amount of the missed RMD.

The SECURE Act 2.0 reduced that penalty amount to 25 percent of the missed RMD effective for tax years beginning in 2023 and beyond. The penalty amount is further reduced to 10 percent of the missed RMD if the client takes all of their missed RMDs and files a tax return paying the required tax and penalty amount before the earlier of (1) receiving a notice of assessment of the RMD penalty tax or (2) two years from the year of the missed RMD.

The client should receive an RMD notice from the IRA custodian by January 31 of any calendar year that the client is required to take RMDs. The custodian should either provide the amount of the required RMD (which is based on the account balance as of December 31 of the previous year) or offer to provide the calculation on request. When year-end rollover transactions remain in play as of December 31, clients should remember that it’s possible that the IRA custodian’s calculation could be incorrect.

Conclusion

The end of the year is always a busy time. Both clients and advisors should pay close attention to any retirement-related transactions that are occurring around year-end to avoid mistakes that could lead to unpleasant financial surprises.

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