Two options are available for former employees to rollover pensions into an individual retirement account, according to the IRS. Direct rollover is tax-free and occurs when the distribution amount is transferred directly from the pension administrator to an IRA. A 60-day rollover occurs when the pension distribution is made directly to the employee who subsequently transfers it to an IRA.
Unless the retirement distribution is transferred directly from the pension administrator to an IRA, 20 percent is withheld for taxes. Direct transfer occurs through electronic funds or a check made out to the IRA plan, states the IRS. Tax withholding applies for any other pension distribution, including the 60-day rollover.
With the 60-day rollover option, the pension distribution is made directly to the employee, and 20 percent is withheld. If the employee transfers the full distribution to an IRA within 60 days, the employee must use other funds to make up the 20 percent withheld. Under this scenario, tax returns record the IRA contribution as nontaxable rollover income and the 20 percent as taxes paid, reports the IRS.
In 2011, pension rules changed, which allowed administrators to calculate lifetime benefits at higher interest rates that decreased distribution amounts. Some companies terminated pension plans and instead offer cash distributions because they are less expensive than annuity payments, according to Kiplinger. For this reason, a tax-free rollover to an IRA is a beneficial retirement plan.