Clients commonly roll over IRAs from one financial institution to another. Perhaps the client has recently changed his banking relationship, wants to consolidate numerous retirement accounts, or is looking for different investment options. A mistake in the rollover process—the failure to complete the rollover within 60 days of a distribution—can be costly to the client from an income tax standpoint. There is, however, the ability to apply for relief from the IRS. The requirements for requesting a waiver of the 60-day period provide inherent practical advice for attorneys advising clients about the rollover process. With attention to these requirements, attorneys will be in a better position to seek relief for their clients if a botched rollover occurs.
Generally, a retirement plan distribution will be taxed as ordinary income to the recipient and may be subject to an early withdrawal penalty if the recipient is under age 59½. Under IRC § 408(d)(3)(A), however, an IRA distribution will not be included in the recipient’s gross income if the distribution is rolled over into an eligible retirement plan within 60 days of receipt. Any distribution can be rolled over, in whole or in part, except for specified categories of distributions: (1) any of a series of substantially equal distributions paid at least once a year over the taxpayer’s life expectancy, the joint lives or life expectancies of the taxpayer and the beneficiary, or a period of 10 years or more; (2) a required minimum distribution; (3) hardship distributions; (4) certain corrective distributions of excess contributions or excess deferrals; (5) a loan treated as a distribution; (6) dividends paid on employer securities; (7) the cost of life insurance coverage; and (8) generally, a distribution to the taxpayer’s beneficiary.
Unfortunately, despite a client’s best intentions, sometimes rollovers are not completed within the 60-day period. To avoid income tax on the entire distribution, the client can obtain relief in certain situations. The IRS automatically will waive the 60-day rollover requirement in limited circumstances in which the client’s financial institution did not act in time. Generally, an automatic waiver is available if the client instructed a financial institution to deposit the distribution into an eligible retirement account, and the financial institution receives the funds within the 60-day period, but the funds are not actually deposited into the retirement plan because of the financial institution’s error. Under these circumstances, an automatic waiver is available if the funds are actually deposited into the retirement plan within one year.
In all other circumstances, a client who fails to roll over a distribution within 60 days must apply to the IRS to request a waiver of the 60-day period. IRC § 408(d)(3)(I) provides that the IRS may waive the 60-day requirement when the failure to do so would be “against equity or good conscience,” including casualty, disaster, or other events beyond the client’s reasonable control. The IRS will consider all relevant facts and circumstances, including (1) errors committed by a financial institution; (2) the taxpayer’s inability to complete a rollover because of death, disability, hospitalization, incarceration, restrictions imposed by a foreign country, or postal error; (3) the taxpayer’s use of the amount distributed; and (4) the time elapsed since the distribution occurred.
Requesting a waiver of the 60-day period requires applying for a private letter ruling under Rev. Proc. 2003-16. Although Rev. Proc. 2013-4 provides guidance on the form of the letter ruling request and the required statements and declarations by the taxpayer, the actual letter ruling request must include additional information and be supplemented by specific records and documentation to support the waiver. The client should be prepared to provide the following information—some of which is administrative and readily accessible and some of which must be compiled or drafted solely to prove the client’s objectives, omissions, and actions:
- The name of the IRA holder, the account number, and the name of the IRA custodian or trustee.
- The amount of the distribution.
- The date the distribution was received.
- The Form 1099-R received by the taxpayer.
- The name of the qualified retirement plan or IRA custodian or trustee with which the funds will be deposited if a waiver is granted.
- Whether the taxpayer has completed a rollover during the prior year. Because IRC § 408(d)(3)(B) provides that only one rollover can be completed during any one-year period, the taxpayer must confirm that this requirement is met.
- The taxpayer’s date of birth and age. Note that if the taxpayer is age 70½ or over, any funds required to be distributed under the minimum distribution rules may be ineligible for rollover treatment.
- An explanation of the purpose for the distribution. The IRS may be more likely to grant a waiver when the taxpayer can prove that the distribution was made either involuntarily or for the purpose of transferring the funds to another retirement plan. Documentation providing that the taxpayer intended to take advantage of portability of funds between retirement plans, rather than using the funds for a personal purpose, is significant. If the taxpayer deposited the distribution into an account pending completion of a rollover, he may provide an account statement evidencing the deposit.
- An explanation why the rollover was not completed within 60 days. The supplemental information required will depend on the hardship claimed. If the taxpayer is relying on error by a financial institution or financial advisor, the submission should include evidence showing that an error was made. Such errors may include the accidental establishment of a taxable account instead of an IRA, incorrect tax advice about the rollover requirements, or an involuntary distribution. The strongest evidence the taxpayer can provide is a written acknowledgment from the advisor or institution admitting the error. If the taxpayer cannot obtain this admission, copies of letters or e-mails between the taxpayer and the advisor or institution may be provided to support the assertion. For example, prior correspondence from a financial advisor containing inaccurate advice about the rollover requirements may be helpful, as may an e-mail from the taxpayer instructing the financial institution to establish an IRA rather than a taxable account.
- If the delay was because of disability or hospitalization, the taxpayer should provide documentation of his condition. For example, a doctor’s affidavit, copies of medical bills, and copies of medical records may be provided to support the disability or hospitalization during the relevant time period. If the failure was because of the death of the taxpayer, a death certificate should be included.
- Evidence that the taxpayer has not used the distributed funds. The taxpayer should provide evidence tracing the funds to show that the distribution has been retained in full. For example, the taxpayer may provide a bank statement showing the deposit of funds and the retention of the funds in that account. If the distribution was divided into more than one account, the taxpayer should provide a bank statement for each applicable account evidencing that the balance deposited into each account remains available.
- Similarly, the taxpayer should be prepared to provide evidence that, but for the special circumstances, the rollover would have been completed within 60 days. The taxpayer must prove that he had the contemporaneous intent to complete the rollover at the time the distribution was received, instead of a later decision that a rollover would have more beneficial tax consequences. Any written communications from the taxpayer to an advisor, accountant, attorney, or relative, such as e-mails to the taxpayer’s attorney, may provide evidence of intent. If written communications are not available, an affidavit signed by a person with knowledge of the taxpayer’s intent (such as an advisor, accountant, or attorney) may be sufficient.
- If the taxpayer desires to roll over the entire account balance, evidence that the taxpayer had sufficient liquidity during the 60-day period to roll over the entire balance (including the amount of any federal or state taxes withheld from the distribution). Generally, federal or state income tax will be withheld from the distribution check received by the taxpayer. If the taxpayer wishes to roll over the entire balance of the account, including the amount of the withholding, the taxpayer must provide evidence that he had sufficient funds from other sources equal to the amount of the withholding. If so, the taxpayer can make up the withheld amount from other sources. Evidence may include bank account statements, proof that the taxpayer could draw on a line of credit, confirmation that the taxpayer could have borrowed money during the 60-day rollover period, or other documentation to prove that he either maintained or had access to liquidity in the amount of the withholding.
From the documentation required by the IRS, both practitioners and clients can determine the best practices to institute when a client desires to roll over a distribution from one retirement account to another. For example:
- The attorney should document the client’s intentions in a writing contemporaneous with the distribution. The attorney could ask the client to state in an e-mail or written statement the purpose for the distribution, and that he desires to roll over the distribution into another retirement account.
- The attorney should retain any e-mails to or from the client evidencing the client’s intentions.
- Any instructions given to or received from a financial advisor or financial institution should be made in writing and retained until the rollover is complete.
- The client should maintain account statements from any account or accounts in which he deposited the funds pending the rollover.
- The client also should retain account statements from the 60-day period indicating that he had sufficient liquidity in other accounts to roll over the entire balance.
The importance of these specific records and contemporaneous evidence cannot be understated. Using these requirements as a guide should help attorneys put best practices into place when a client is considering a rollover of retirement funds. The retention of this evidence may preserve the availability of relief, and the presence of these items—or lack thereof—may help the attorney and the client weigh the likelihood of a favorable outcome if the rollover is not completed properly.