Rollover Annuities to a Roth IRA: What You Need to Know

There are two types of annuities that may cause confusion regarding retirement savings: tax-sheltered annuities and tax-deferred annuities. A tax-sheltered annuity is an employer-sponsored qualified retirement plan that's eligible for rollover once employment is terminated. A tax-deferred annuity is a supplemental retirement savings account that's eligible for Roth IRA rollover only under certain circumstances. There may be more than one step in taking your 403b and making it a Roth.

Tax-Sheltered Annuity

A tax-sheltered annuity is a retirement plan offered by tax-exempt organizations such as public schools or nonprofit agencies. These plans are often referred to as 403b plans for the IRS code they must adhere to. Eligible employees can make elective salary-reduction contributions into the 403b; the organization can also match or contribute on the behalf of the employee. Regardless of termination reasons, the employee may roll over 403b assets to a self-directed Roth IRA.

Tax-Deferred Qualifications

A tax-deferred annuity may be classified as qualified or nonqualified. The qualified annuity is either a contributory IRA or a rollover of another plan such as a 403b or 401k plan. These assets are eligible for rollover and conversion into a Roth. A nonqualified annuity is a supplemental account. In the nonqualified annuity, only after-tax dollars are contributed, so only earnings are given tax-deferred growth. The nonqualified annuity isn't eligible for rollover or Roth conversion.

Rollover and Conversion

The IRS doesn't limit your ability to take one qualified account and directly roll it into a Roth IRA — the conversion can be recorded in the one move. However, IRA custodians usually require first rolling money into a traditional IRA and then converting the traditional IRA into a Roth. The ultimate result is the same; the second method only adds a step and a bit of time. Check with your IRA custodian to see if you're able to do a direct rollover into a conversion.

Roth Conversion

IRS regulations as of 2011 have no income limits allowing Roth conversions. If your annuity is qualified, you're eligible to convert the pretax money into after-tax funds, which grow tax-free. The converted amount is added to your adjusted gross income for the year you make the conversion. Converting in 2011 adds the amount to Line 15 on Form 1040 when filing your personal tax return in 2012. Holding the Roth IRA for five years and until age 59 1/2 yields tax-free distributions.