When Bad IRA Rollovers Happen to Good People

As we approach the Congressional midterm elections (still with no action on the estate tax), one often hears opinions in certain quarters that the government isn’t efficient. Studiously expressing no opinion about these claims generally, KYEstates is pleased to report that they’re untrue in at least one respect: the IRS has become very efficient at issuing Private Letter Rulings waiving the 60-day requirement for IRA rollovers in instances of “financial institution error”.  A quick scan of recent PLRs turns up at least three rulings on this issue. See PLR 201023073 (June 11, 2010), PLR 201023072 (June 11, 2010), and PLR 201022027 (June 4, 2010).

Generally, under section 408(d)(1), any amount paid out of an IRA is included in the gross income of the payee or distributee, but IRA rollovers that comply with section 408(d)(3) are an exception. That section provides that the income inclusion requirement doesn’t apply to any amount paid or distributed out of an IRA to an individual, if the entire amount received is paid into an IRA for the benefit of the individual, not later than 60 days after the individual receives the payment or distribution. (There is a similar 60–day rollover period for partial rollovers.)

This is the 60-day rollover requirement. It seems pretty straightforward, doesn’t it? Note, however, that more than 46 million Americans have IRAs. In a sample size that large, deadlines are bound to be missed. Sometimes the account holders who miss the deadlines are voters. And when the IRS claims that yes, the deadline did matter, and that yes, income tax is owed on the full amount of the distributed IRA funds not rolled over within 60 days, the voters get upset.  Some KYEstates readers may recall that when “Mr. Bigglesworth gets upset, people die!” The corollary to this near-universal truth is this: When voters get upset, legislators die. To avoid this unpleasant outcome, legislators sometimes take a break from fundraising and there-and-back photo op trips to Iraq and Afghanistan to put a leash on the IRS.

That’s what happened in 2001 with section 408(d)(3)(I), which provides that the IRS may waive the 60-day requirement under sections 408 where the “failure to waive such requirement would be against equity or good conscience, including casualty, disaster, or other events beyond the reasonable control of the individual subject to such requirement.”

Rev. Proc. 2003-16, 2003-4 I.R.B. 359 (January 27, 2003) provides guidance on when the IRS will grant a waiver of the 60-day rollover requirement. The IRS “will consider all relevant facts and circumstances, including: (1) errors committed by a financial institution; (2) inability to complete a rollover due to death, disability, hospitalization, incarceration, restrictions imposed by a foreign country or postal error, (3) the use of the amount distributed (for example, in the case of payment by check, whether the check was cashed); and (4) the time elapsed since the distribution occurred.”  Rev. Proc. 2009-8 provides for a sliding fee scale: $3,000 for a rollover amount equal to or greater than $100,000, $1,500 for a rollover between $50,000 and $100,000, and $500 for a ruling on a rollover of less than $50,000.

The recent PLRs show a continuing IRS trend of leniency relating to financial institution errors.

In PLR 201023072, the institution incorrectly distributed more than the account holder’s required minimum distribution, without the account holder directing them to do so, and the account holder didn’t realize the excess distribution had been made until the 60-day period had expired.

In PLR 201023073, a taxpayer who had suffered investment losses removed funds from an IRA invested in equities, and brought the funds to another institution to invest in CDs.  That institution incorrectly deposited the funds into the wrong account, a non-IRA mutual fund.

In PLR 201022027, another taxpayer who had tired of investment losses withdrew IRA funds, intending to deposit them into a CD at a credit union. The taxpayer’s financial advisor at the first institution didn’t inform her of the 60-day rollover requirement. The taxpayer stored the check for withdrawn funds in a safe deposit box pending her return from a trip to take care of her sister. When she returned from the trip and tried to open the rollover IRA, the credit union staff said they couldn’t do so, because she’d missed the 60-day rollover period by one week.

In all three instances, the IRS granted waivers from the 60-day rollover requirement for the IRA distributions (cautioning, however, that required minimum distributions couldn’t be rolled over).

Bob Keebler of Baker Tilly provided useful commentary on exceptions to the 60-day IRA rollover requirement in this Forbes article. In contrast to the instances above, where the IRS granted waivers based on financial institution mistakes, Keebler cautioned that:

The IRS “isn’t too sympathetic when taxpayers make mistakes, unless there are extenuating circumstances, such as a taxpayers’ advanced age or incapacity. So for example, in PLR 200919071 the IRS denied a waiver to a taxpayer who admitted his failure to complete the rollover in 60 days was because he thought he had 90 days. In PLR 200738027, it turned down relief to a taxpayer whose failure to accomplish the timely rollover was due to mistakenly entering the wrong account number. And in PLR 200736036, it denied relief to a taxpayer who completed the wrong form over the Internet.

Keebler concluded that “this is a difficult area of the tax law with the IRS granting fewer and fewer favorable requests. Perhaps the moral of the story is to always use a ‘trustee-to-trustee’ transfer and to avoid the issue altogether.” KYEstates agrees with that advice.