Onerous consequences can result when taxpayers fail to follow through with an IRA tax-free rollover. Generally, the entire amount distributed from an IRA or other qualified trust or eligible retirement plan must be deposited in another such account within 60 days.
Otherwise, it is included in the taxpayer’s gross income and may be subject to the 10% early withdrawal penalty of IRC § 72(t). However, under sections 408(d)(3)(I) and 402(c)(3)(B), the 60-day requirement may be waived if, in the discretion of the IRS, an extension should be allowed for “equity or good conscience,” for reasons including casualty, disaster or other events beyond the taxpayer’s reasonable control.
Under Revenue Procedure 2003-16, taxpayers seeking a waiver must apply for a private letter ruling unless, in an otherwise valid rollover, the lapse is due solely to an error by the depositing financial institution and the funds are deposited into an eligible plan within one year from the beginning of the 60-day period. Circumstances that may justify a waiver include death, disability, hospitalization, incarceration, restrictions imposed by a foreign country, or postal error. The IRS also will consider whether the disbursed funds were used and how much time elapsed after they were distributed.
FINANCIAL INSTITUTION ERRORS
A good-faith misunderstanding between the taxpayer and a financial institution usually has been grounds for a waiver if the taxpayer clearly did not intend that funds be withdrawn from an IRA or gave instructions that were intended to complete a timely rollover. In one such case, the bank’s failure to advise the taxpayer of the 60-day rollover requirement contributed to his not learning of an erroneous deposit to a non-IRA account until he received a Form 1099-R after the 60-day period had expired (PLR 200944060). But where a taxpayer was aware the funds were disbursed from his IRA, the institution’s failure to notify him of the 60-day requirement did not constitute an error warranting a waiver (PLR 200847022). Waivers usually have been declined for taxpayers who were simply confused about or ignorant of the rollover requirements (PLR 200941032).
“NO-INTEREST, SHORT-TERM LOAN” CAN BACKFIRE
In some cases, taxpayers used the funds for other purposes and intended to repay them to an IRA within 60 days but failed to do so. These requests generally were denied. A taxpayer who used his IRA to buy a trailer park and was two days late repaying the funds was denied a waiver, although he also claimed he had been preoccupied by his wife’s medical condition (PLR 200832026). The Service took the position that his wife’s condition did not require his full time and attention during the 60 days, and the use of the funds was in the nature of a short-term loan.
DEGREE OF DISABILITY OR CARE CONSIDERED
For waiver requests involving death, disability or hospitalization, the taxpayer’s ability to exercise reasonable control over tasks and functions similar to correctly completing a rollover has often resulted in a denial (PLR 200925048). Where the disability or hospitalization is of someone other than the taxpayer, the IRS will consider the extent of the person’s disability and the nature of the care provided by the taxpayer. The Service recently granted a waiver where a taxpayer cared for her father following hospitalization and surgery for a fractured spine and admission to a nursing home, noting that transferred funds were not used but remained in non-IRA accounts with the same financial institutions (PLR 200935047). Taxpayer disabilities that resulted in a waiver include Alzheimer’s disease (PLR 200401025) and alcoholism and mental illness (PLR 200401024). Confusion because of a death in the family has been considered a sufficient reason for a waiver (PLR 200417034).
OTHER GROUNDS FOR EXTENSION
Under other provisions, the deadline for completing a rollover may be postponed while the taxpayer is serving in the U.S. armed forces in a combat zone or “contingency operation” within the meaning of section 7508(a). Taxpayers affected by a presidentially declared disaster or a terrorist or military action generally have up to one year to meet rollover and other deadlines under section 7508A(a).
In addition, under sections 72(t)(2) or 1400Q, taxpayers may take an early distribution from their IRA or qualified retirement plan that is included in gross income but is not subject to the 10% penalty tax. The exception under section 72(t)(2) applies to situations including when the early distribution is used to pay for medical care, qualified higher education expenses, first-time home acquisition costs or medical insurance premiums for certain unemployed taxpayers. Under section 1400Q, it applies to qualified hurricane distributions as defined in section 1400Q(a)(4).
By Darlene Pulliam, CPA, Ph.D., ( firstname.lastname@example.org) McCray Professor of Business and professor of accounting, College of Business, West Texas A&M University, Canyon, Texas.