Rollover from 401k to SEP-IRA at age 70 with RMD not processed from 401k | Ed Slott and Company, LLC

Rollover from 401k to SEP-IRA at age 70 with RMD not processed from 401k

Client held assets in former employer's 401k and in 2019 he rolled the full 401k value to his inactive SEP-IRA. Also in 2019 he turned age 70.5. The 401k recordkeeper did not process his age 70.5 RMD before sending the rollover to his SEP-IRA.

I understand the above circumstances may have created a tax problem because the RMD could be considered rolled over into his SEP-IRA with an excess SEP-IRA contribution.

The client does have 2019 self-employment income so he could make a SEP-IRA contribution to activate it if that could help.

Can anyone suggest how to repair this situation? Maybe it helps that 2019 isn't yet over?

  • Client's 2019 401k RMD was completed as part of the rollover, and the RMD amount will be taxable on Form 1040 notwithstanding the 1099R showing the entire amount as a direct rollover. The SE income that enables him to make a SEP contribution for 2019 will provide a tax deduction and also can be used to reduce the amount of the excess IRA contribution.
  • Example:  400k direct rollover to IRA of which 15k was the 401k RMD. If the allowed SEP IRA contribution is 10k, then there is only a 5k excess IRA contribution which must be returned from the SEP with allocated earnings. The net result would be 5k of taxable income plus the amount of earnings removed with the 5k excess. Of course, he also has a SEP IRA RMD due for 2019 in addition to the 401k RMD.

Thank you Alan! In a follow up call to the 401k recordkeeper we learned they will not process an RMD as part of a R/O because the client was age 70 but not yet 70.5. All in this tax year he turned 70, then processed a R/O to his SEP-IRA, then turned 70.5. The recordkeeper said one 1099 will be issued showing the full amount rolled to the SEP-IRA.

  • If a distribution of excess contribution is now processed out of the SEP-IRA for the 401k RMD amount, I wonder if that will confuse the IRS because they'd have no matching 1099.
  • I can see why the RMD should have come from the 401k prior to R/O because IRA custodians can't know the prior year 12/31 balance so an RMD could easily slip through the cracks.
  • It seems a 401k to IRA R/O at 70 but before 70.5 for a retired participant is confusing and I couldn't find anything from the IRS addressing the timing or procedure. Your comments are very much appreciated.

  • This plan administrator does not know the rules. Assuming you were already retired, any distribution (or rollover) that occurs anytime in your first RMD distribution year is treated as applying to the RMD for that year. You could turn 70.5 in December, and if you did a rollover in the prior January, that would trigger your RMD at the time of the distribution. In any event, the RMD has been completed whether they plan to reflect that in the 1099R or not.
  • This error is not costly, but is a hassle to report because the 1099R will not be consistent with client's 1040. The removal of the excess IRA contribution will not be a hassle because that 1099R will be correct and the IRS will expect that to be reported accordingly. However, because the actual rollover was part RMD the client will have to include an explanatory statement with their return indicating what happened with the RMD, and why the client's return will show that RMD portion of the rollover as taxable. With a clear explanation, the IRS should understand why the 1040 indicates those figures. 
  • This situation often occurs when someone is working beyond 70.5 and RMDs are deferred due to the "still working" exception. In this age range many people roll part of their plan to an IRA while still working early in the year, then they suddenly decide to retire before year end. As soon as they retire, that year becomes an RMD distribution year, and that rollover they did earlier retroactively includes the plan RMD. In this case, the plan administrator would not have known about the pending retirement, creating the same situation that your client faces. That person would also have an IRA excess contribution to remove, so the IRS should be familiar with the reporting necessary to correct that error.
  • Not sure your client's plan administrator understands the issues here, but even if they did many would probably still decline to amend the 1099R to reflect the actual situation, leaving the client to square things up with the IRS. 
  • The following is copied from Natalie Choate's book on retirement accounts. "How can a retiree be forced to take an MRD from his QRP before the RBD? Answer: The first year for which an MRD is required is the year the retiree reaches age 70½. Even though he can postpone that first year’s MRD until April 1 of the following year (the RBD), he cannot roll over any distribution from the plan in the age 70½ year until after he takes the MRD for the year. Thus, if he wants to roll over the QRP benefits to an IRA in the year he reaches age 70½, he must first take out the MRD, even though he has not yet reached his RBD. ¶ 2.6.04. "
 

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