If you ran your own business and set up a Keogh plan so you could stash away extra cash for retirement, but now have a traditional job, you can avoid the extra administrative fees of the Keogh by consolidating it into an IRA. Though the end result of rollovers and transfers are the same, picking the better option for you can result in better cash flow and fewer headaches at tax time.
The easiest way to move money from a Keogh account to an IRA is through a transfer, sometimes referred to as a direct rollover. A transfer is when you tell the bank at which you have your Keogh that you want the funds moved to your IRA account and then the bank moves the funds for you. With a transfer, you never receive the funds, which is beneficial because you don't have to worry about redepositing them back into the account.
You can also choose to move your Keogh funds to your IRA with a rollover, sometimes called an indirect rollover. With an indirect rollover, you request that your bank pay out the funds in the Keogh account to you. Then, within 60 days, you deposit the funds into your IRA. The IRS doesn't care what you do with the money while you have it, as long as it all gets put in the IRA before your 60 days run out. However, the downside is that your bank must withhold 20 percent of the distribution for taxes, even though you won't ultimately owe any tax on the exchange if you complete the rollover properly. That means that you have to come up with 20 percent of the distribution from your own funds to complete the rollover. For example, if you take out $40,000, you will only receive $32,000 because of withholding, but if you don't put $40,000 into the IRA within 60 days, any portion not deposited is considered distributed to you -- a fact that will put you in line for a 10 percent penalty on top of the income tax on that amount.
Transfers also have the added benefit of not being reported on your tax return. When you choose a rollover, you have to report it even if you deposit the entire amount on time. You have to file with Form 1040A or Form 1040 and report the distribution as a nontaxable distribution rolled over to an IRA. In addition, make sure you claim credit for the withholding on your tax return so that you can receive a larger refund.
Roth IRA Conversions
You can also convert your Keogh plan to a Roth IRA. Since Keogh plans are pretax accounts and Roth IRAs are after-tax, you have to include the amount of the conversion as part of your income for the year whether you use a transfer or rollover to complete the conversion. However, when you take qualified distributions from the Roth IRA after you turn 59 1/2, you won't pay taxes on any of the withdrawals. Consider a conversion if you are in a lower tax bracket in the current year than you expect to be in when you retire.
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