DROP Payout Option 2 – The “Stop DROP and Roll” Option
The 2nd of the 3 FRS DROP rollover options is the 100% Rollover option. Our office likes to call it the “Stop DROP and Roll” option. This option is for anyone who doesn’t want to have a taxable distribution at the time of retirement. For most people, the year they retire will usually be the highest tax bracket they will ever be in again, so they pick the “Stop DROP and Roll” option and take their distributions at a later date when they’re in a lower tax bracket.
When you pick a rollover option you will have to fill out the second page of the DROP Payout form (DP-PYT) to tell the FRS where to send the money. This second page must be filled out and signed by your financial professional, or the FRS will not send the check. One common misconception with both participants and financial professionals is that you can only roll your funds to one account. That is not true. You may roll your DROP funds to as many accounts as you’d like by making copies of your drop form and putting “1 of (?)” “2 of (?), etc.” at the top.
You’ll have a choice of which type of pre-tax account to roll your money into. A question we commonly get is “Which type of account is the best?” The options on the DP-PYT form are for the type of retirement vehicle you want to use, not the type of investment you want to use. IRA’s, 403(b), 457, Roth accounts, etc. all can have the same types of investments, and that’s a decision that you make with your financial professional.
There are a few things to take into consideration before electing which type of account you roll your money to:
- Roth IRA’s: If you elect to roll your money to a Roth IRA you must pay taxes on all the money you elect to have sent to the Roth IRA. So if you pick a Roth IRA you effectively picked option 1 (aka I Love Uncle Sam). Also, with Roth accounts you can’t touch the interest for the first 5 years and you can’t take a distribution until you’re 59 ½ or older without a penalty. Please consult a tax professional if you’re considering this option.
- Traditional IRA’s: IRA’s and Roth IRA’s have the most investment choices available, which make them a popular choice for most retirees. One thing to remember is that you can’t take distributions from an IRA until you’re 59 ½ or older. There is a way to take distributions via IRS Rule 72(t) but then you limit access to your funds.
- 403(b) (aka TSA), 457 (aka Deferred Comp), and other employer plans: If you’re retiring before the age of 59 ½ you may want to consider rolling some or all of your money to one of your employer plans so you can have access to your funds. If you are retiring before the age of 59 ½ please consult a financial professional because each type of account has a different rule for what age you can take distributions. You can also take a loan from most employer plans, which allows you to access funds without paying taxes, and you can repay yourself. The main downfall of employer plans is the limited investment options. You’re only allowed to use investments that your employer has approved. Also, you may have to request permission from your employer or their third party administrator (TPA) to be able to access your funds.
Rolling over your DROP funds is one of the most important financial decisions you will ever make. Not only should you seek professional guidance, but you have to have a financial professional fill out page 2 of the DP-PYT form.