What is meant by the “20% withholding requirement”?
When an eligible rollover distribution from your employer’s plan is paid to you—rather than to the trustee of a traditional IRA or other eligible retirement plan as a direct rollover—the plan is required by law to withhold 20% of that amount. This amount is sent to the Internal Revenue Service as federal income tax withholding. For instance, assume that your eligible rollover distribution is $10,000. Only $8,000 will be paid to you, because the plan must withhold $2,000 as income tax. However, when you prepare your federal income tax return for the year, you will report the full $10,000 as a payment from the plan. You will report the $2,000 as tax withheld, and it will be credited against any income tax you owe for the year. Note that you will owe ordinary income taxes on $10,000, less any amount you roll over within 60 days. A 10% federal excise tax may also apply.
