WILL THIS ROLLOVER WORK?
I am looking for ways to pay tax bill on April 15th without triggering income tax on IRA distribution – but my client only has [u]one [/u]IRA.
I don’t think I can avoid the income tax but the 10% penalty can be avoided perhaps – taxpayer turns age 59.5 on May 1st
If we withdraw from that IRA and return it to same IRA account within 60 days, is that a valid rollover? I think that the answer is yes. IRS does not object to returning the assets to the same account from which the funds were withdrawn. Correct?
However, if we take two withdrawals of $30,000 one on April 10th and one on May 10th – then we redeposit $30,000 on May 30th – what is the date of the taxable distribution? This is important because perhaps the 10% penalty can be avoided. Per reading of Natalie Choate’s book, it seems clear that one can not pick and choose which distribution is taxable – it looks like the second distribution is considered to be taxable – which is a good result – can someone confirm this?
(I looked at reg 1.402(c)-2 but I did not see an answer…where should I be looking?)
Thanks
Jim
Permalink Submitted by Alan Spross on Sun, 2009-03-22 00:45
Jim.
I am not aware of any regulation that eliminates the IRA owner’s option regarding which distribution he elects to roll over. I would be interested in what context Natalie Choate indicated that one could not select which distribution could be elected for rollover. This can be critical become of the one rollover rule within a 12 month period. If someone took out a large distribution after a small one, they are allowed to elect to roll over the large one to reduce the size of the taxable distribution as long as the 60 day period is met.
In your example, assuming the client still has a rollover to use by not having ececuted one in the prior 12 months, he should be able to elect to roll over the first distribution by 6/9 and that would eliminate a taxable and penalized distribution. The second distribution done on 5/10 would be taxable, but free of penalty as it was taken post 59.5. It could not be rolled over if the earlier distribution was rolled over. Note that a rollover is irrevocable, so once 30,000 is rolled over, there cannot be an additional amount rolled over due to the 12 month rule, since any amount rolled over 30,000 had to come from a different distribution date.
In this case the IRA custodian should issue two 1099R forms, one coded early and the other normal. The early one (coded #1 in Box 7) is the one that is rolled over.
There are no tracing rules that would eliminate the first distribution as a rollover as a result of the 4/15 tax payment, as that could also have been an issue. Client cannot do another rollover distribution until 4/11/2010 as the 12 months starts with the date of distribution, not the date the rollover was completed.
Permalink Submitted by Bruce Steiner on Sun, 2009-03-22 02:05
It would be cheaper to pay the tax on May 1 than to research the question. The late payment penalty is 0.5% per month, or $150 for one month on $30,000 of tax. The interest rate during the period from April 1, 2009, to June 30, 2009, will be 4%, or about $50 on $30,000 from April 15 to May 1. So the total cost of paying the $30,000 of tax on May 1 instead of April 15 will be about $200.
Permalink Submitted by JAMES MAGNO on Mon, 2009-03-23 13:31
Alan-
The issue that Natalie Choate discussed relates to making an irrevocable election for rollover treatment at time that rollover is completed. For example, in July 2008, taxpayer withdraws $1000. Within sixty days the $1000 is redeposited. At that time the deposit slip/contribution form is marked “rollover”. That paperwork constitutes an irrev election. Now in April 2009 taxpayer draws out $30k – expecting to complete a sixty day rollover. If the 2008 tax return is filed treating the $1000 as a taxable withdrawal and treating the $1000 deposit as an allowable current year(2008) contribution, that is a good try but it does not work. The 1000 is the rollover and the 30k is not allowed to be rolled over because of the 12 months rule.
Admittedly, there is flexibility on a proactive basis before the election is made. Ms Choate’s point is that the taxpayer cannot pick and chose after the fact ie when the 2008 tax return is being prepared.
In my case, it will be confusing if both withdrawals are 30k. It is also confusing that both withdrawals are within sixty days of each other. I don’t see off hand any clarification as to which withdrawal is linked to the rollover contribution.
As to Bruce’s comment – there is also one more penalty issue – 5% per month due to the fact that the extension request might be denied since estimated tax and withholdings don’t add up to 90% of the final tax liability. That being said, it is a close call as to whether the avoidance of the 10% premature distribution penalty is optimal as compared to the avoidance of the interest and penalties. Point well taken.
Permalink Submitted by Alan Spross on Mon, 2009-03-23 17:09
Jim.
Thanks for explaining her point and I agree that an eligible rollover including 1099R and 5498 generated forms in that case was irrevocable and cannot be changed on the tax return or any other way. As you indicated, with the two distributions in your original post, the taxpayer has the option as to which one of them will be rolled over within 60 days. That election would become irrevocable as soon as the custodian recorded the re contribution as a rollover contribution. Sometimes a taxpayer will take out two distributions of different amounts being unaware of the one rollover limit, and then will usually have to opt to rollover the larger amount and be taxed on the smaller one. There is however, a back door escape hatch that would probably work here. If eligible, the taxpayer could convert the other one to a Roth IRA as a conversion does not count toward the one rollover limit. Taxpayer could then recharacterize the conversion, and I have never heard of the IRS challenging this as an illegal step transaction, although they probably could if they wanted to. There are probably plenty of cases where a taxpayer first does a conversion to a Roth, then a rollover within his TIRA accounts. Then he finds out in the tax prep process the next spring that his income was too high for the conversion and recharacterizes it. The order in which these transactions take place could become a factor if the IRS questions it, but they won’t barring an extreme situation.
In summary, in your first post, the taxpayer could roll back the first distribution and retain the second one done after age 59.5 and therefore non subject to early withdrawal. There should be no need to seek a ruling to do this, as there is no regulation that mandates a rollover order when there are multiple distributions.
Permalink Submitted by mk foss on Mon, 2009-03-23 18:53
What if someone withdrew say 30,000 from an IRA and rolled 20,000 back in 30 days and the remaining 10,000 back 45 days from the original withdrawal. I’ve never focussed on the timing of the “roll back” just the removal.
Permalink Submitted by Alan Spross on Mon, 2009-03-23 20:36
Mary Kay,
A partitioned rollover should be OK since the one rollover limitation relates to receiving “any other amount” as a distribution and not on how the rollover is divided up. Att’d copy of limitation in Sec 408:
>>>>>>>>>>>>>>>
(B) Limitation
This paragraph does not apply to any amount described in subparagraph (A)(i) received by an individual from an individual retirement account or individual retirement annuity if at any time during the 1-year period ending on the day of such receipt such individual received any other amount described in that subparagraph from an individual retirement account or an individual retirement annuity which was not includible in his gross income because of the application of this paragraph.
>>>>>>>>>>>>>>
No matter what portion of a distribution is rolled over and irrespective of the number of receiving IRA accounts there are within 60 days, the key appears to be that if any portion whatsoever was rolled over, no distribution taken in the following 12 months can be rolled over. The 12 month period is also counted from the date of the distribution, not the completed rollover.
Therefore, you could take out one amount and split the rollover up between receiving accounts and amounts, but you cannot take out two different distributions and roll them both over. For a major unknown expense with the bills coming in over a period greater than 60 days, it is safer to take out several small distributions as the bills come in than one large amount that would put you in a bind at the 60 day mark as to how much to roll back or keep out for additional bills.