Don’t get run over by the ‘rollover rule’ / When it comes to moving retirement funds, the once-per-year rollover rule is all too often overlooked.

Jeffrey Levine for MarketWatch writes: This rule limits the amount of times certain retirement funds can be moved per year via a 60-day rollover (where retirement funds are distributed to an account owner who returns them to another retirement account within 60 days).

Breaking the rule can lead to severe tax consequences.

If you take a second distribution from your retirement account within a year that can't be rolled over, not only can it become irrevocably taxable but, if it's errantly "rolled over" to another retirement account, you could end up paying a 6% excess contribution penalty for each year the funds remain there.

The good news, though, is that if you know what you're doing, it's pretty easy to avoid making once-per-year rollover mistakes. So with that in mind, below are the key aspects of the rule you need to know so you can avoid the costly tax mistakes that can ruin a retirement.

Moving money directly from one retirement account to another avoids the issue

Whenever you move money from one retirement account to another, it's generally best to do so directly, either by direct rollover or by transfer. In both scenarios, the key is that money is going right from one retirement account to the next. Generally, this is done by having one IRA custodian or plan send your retirement funds directly to another IRA or plan, bypassing you altogether. Doing so avoids a lot of pretty lousy tax issues.

The most obvious tax trap avoided when moving money directly from one IRA to another is that there is no 60-day rule to worry about — but another tax trap that's avoided is the once-per-year rollover rule. When you move retirement account money directly, you can move the money as often as you like. You can transfer your funds from one IRA custodian to another today, only to transfer them to another custodian tomorrow. The same process can be repeated indefinitely — but I wouldn't recommend it.

Keeping track of what financial institution holds your money shouldn't be a full-time job.

The rule only applies to IRA-to-IRA and Roth IRA-to-Roth IRA rollovers

The once-per-year rollover rule does not impact all 60-day rollovers equally because the rule only impacts IRAs. More specifically, it only affects 60-day rollovers that are made from one traditional IRA to another traditional IRA or those made from one Roth IRA to another Roth IRA.

As a result, there are a number of rollovers that are completely exempt from this rule. For instance, 60-day rollovers of plan funds rolled to IRAs (either traditional or Roth) are exempt from this rule because the funds are not coming from an IRA. The opposite is also true. IRA funds rolled within 60 days to a company plan account are also exempt from the once-per-year rollover rule because the funds are not going to an IRA. Similarly, 60-day rollovers of plan funds to another plan are also exempt, since neither account is an IRA.

Of greater value, however, for some IRA owners, is that a 60-day IRA-to-Roth IRA rollover, which is one way to make a Roth IRA conversion, is also exempt from this rule. As such, you can always make a Roth whenever you want, without worrying about the once-per-year rollover rule, whether that conversion is made by 60-day rollover or by direct rollover (which is still generally the better option).

The rule applies on an account-by-account basis

If you make a 60-day rollover with some of your IRA money, you may still be able to make 60-day rollovers of other IRA money in the same year. The once-per-year rollover rule applies to IRAs on an account by account basis, so if you have multiple IRAs, you may have some flexibility.

Once you make a 60-day IRA-to-IRA or Roth IRA-to-Roth IRA rollover, both the distributing and receiving accounts are "tainted" for the following year, preventing you from rolling over another distribution taken from either account. For instance, let's say you have three IRAs, IRAs "A," "B" and "C." On July 1, 2013 you take a distribution from IRA "A" and, within 60 days, roll those funds over to IRA "B." As a result, you cannot rollover any distributions taken from IRAs "A" or "B" for the 12-month period beginning July 1, 2013. You could, however, take a distribution from IRA "C" during that time and roll it over. Furthermore, the IRA "C" distribution can be rolled into any of your IRAs. The one-rollover-per-year rule does not prevent IRA money from being rolled into an account, just from being rolled out of an account.

There are a few other items worth noting here. First, it is possible to rollover a distribution back into the same IRA it came out of. In such cases, there is only one "tainted" account to worry about, since the distributing and receiving accounts are the same.

Another key point here is that the one-year clock for both the distributing IRA and the receiving IRA are the same. The one-year clock for both IRAs begins ticking on the day the funds are withdrawn from the distributing account. It does not make a difference when, during the 60-day rollover window, the rollover is completed. It has no bearing whatsoever on the one-year clock.

If you make a mistake, don't ask the IRS for help

Making a mistake with your retirement account is never a good idea, but some mistakes are worse than others. For instance, there are some mistakes which, with some time, money and a little luck, can be fixed. Missing the 60-day rollover deadline is an excellent example of this. Under the law, the IRS actually has the authority, through a private letter ruling, or PLR, to grant an extension of this window when certain circumstances permit.

On the other hand, there are some mistakes that generally can't be fixed, such as those involving more than one rollover made in the same year. Regardless of the circumstances that led to the mistake, the IRS has no authority under the law to waive or adjust this rule.

The only way you might be able to fix such a mistake is if you catch it quickly and take appropriate action. Quickly, in this case, means within 60 days of your "bad" distribution. And what action do you take? Simply complete your 60-day rollover to a retirement account that is exempt from the once-per-year rollover rule. For example, if you accidentally take a second IRA distribution within the no-rollover period and catch your mistake within 60 days, you can roll that distribution over to a plan account (if you have one that accepts rollovers) or to a Roth IRA. In either case, the rollover is not counted for the once-per-year rollover rule.

You might be thinking to yourself, "But wait, if I roll the money over to a Roth IRA, won't I still have to pay tax on the distribution?" The answer, of course, is yes, but if you have to pay tax on the distribution you planned on rolling over anyway, you might as well do it getting the money into a Roth IRA where it can grow tax free. Plus, if you really don't want to pay the tax, you can always recharacterize, or undo, your conversion by October 15th of the year after you convert. You can even recharacterize the next day because guess what? A recharacterization of a Roth IRA conversion moves money from a Roth IRA directly back to a traditional IRA, so it's exempt from the once-per-year rollover rule too.