"The Pension Specialists" Blog

Email Consulting Guidance – Excess Deferrals to SIMPLE-IRAs. Who is Primarily Responsible to Correct?

Email Consulting Guidance – Excess Deferrals to SIMPLE-IRAs. Who is Primarily Responsible to Correct?

Posted by James M. Carlson
January 2022

Q-1. We have a SIMPLE IRA that contributed 16 cents more than allowed in 2021. Do we have to distribute the 16 cents and issue a 1099R on such a small amount?

A-1. Will the individual have other distributions in 2022?

If not, he may withdraw the amount as an excess contribution. Remember the rule is - a Form 1099-R needs to be prepared only if the annual distribution amount is $10 or more.

You would have to determine if you can instruct your system not to prepare the Form 1099-R. Or, you could decide to code the withdrawal as transfer so that the Form 1099-R would not be prepared.

Q-1A. What about the 5498 report and his w2? They will both show an excess contribution. Do we still send the 5498 with that on it?

A-1B. Is he withdrawing the 16 cents? If he does , there no longer is an excess .

The excess deferral was made so there is no right to change his Form 5498.

As for his W-2 form, the tax accountant and the employer must decide what is to be done. I presume his W-2 would report the corrected deferral amount and it would not include the 16 cents. His income might go up by 16 cents????

In my opinion, the 16 cents just is not material.

Q-1B. I thought you said he will withdraw it but I guess an excess contribution requires something more?

A-1B. A SIMPLE-IRA excess contribution situation is very different from an excess traditional IRA or SEP excess contribution situation.

When a mistake occurs and an employee contributes/defers more than the law permits this can impact the employer’s preparation of the person’s Form W-2. This is the job of the accountant or the payroll company.

For 16 cents I personally would take the position the employer need not modify the Form W-2 as it is not material.

Q-1C. The month we receive the contribution is the month the IRS uses to add up the total contribution in a year, correct? i.e. December 2020 withholding was contributed in January 2021. So it is a 2021 contribution and not 2020.

A-1C. A good question and you are right - the amount to be reported in box 9 (SIMPLE-IRA contributions) is based on the year the bank receives the contribution. The bank does not indicate on the Form 5498 for what tax year the contribution relates. The employer and the employee do this on their tax returns.

I don’t see the IRS calculating or trying to calculate if a person has exceeded the SIMPLE-IRA elective deferral limits for 2021 or for any year. You are concerned that the IRS monitors this limit and then contacts someone. I don’t think the IRS does. I don’t think the IRS computer systems are designed to monitor this limit. Why?

The amount reported in box 9 is the aggregate of two amounts; a participant’s elective deferral amount plus the employer contribution which is either a match with a limit of 1-3% of compensation or the 2% non-elective contribution. There is no way for the IRS to know whether the employer contribution amount is correct or incorrect or whether an employee has exceeded the applicable deferral limit unless an audit of the employer or the employee is conducted.

Email Consulting Guidance – Form 5498 Reporting for an Inherited IRA, Special Titling is Required

Email Consulting Guidance – Form 5498 Reporting for an Inherited IRA, Special Titling is Required

Posted by James M. Carlson
January 2022

Q-1. Hi Jim - a quick question regarding Inherited IRA and a 5498. Should the 5498 reflect that this is an Inherited/Beneficiary IRA in the name and address section? Our system produced the 5498 with the client name and address but not the “title” which would reflect the Inherited IRA language. I can see from a client’s perspective that this is confusing as they would not be able to tell if this 5498 was for their Inherited IRA or their regular IRA. I suppose true as well from the IRS standpoint?

A-1. IRS instructions are clear - the beneficiary indication is required on the 5498 form. Example, Sara Doe as beneficiary of Mother Doe’s traditional IRA.

I understand the IRS would have the right to fine the bank $50 (x two) because the Form 5498 has not been prepared as instructed.

I would want to research - when this information is being furnished to the IRS electronically is there to be the special titling. I would think it must have the special titling because how else does the IRS and the individual understand this is an inherited IRA.

Note that the instructions don’t make clear where the decedent’s info is to be shown.

Although the IRS does not have a similar requirement for the Form 1099-R, they should. When determining how an IRA distribution will be taxed a person does not aggregate personal IRAs and inherited IRAs. There must be separate calculations.

Example. Susan takes a distribution from her personal IRA, one with respect to her inherited IRA from her mother and one with respect to her inherited IRA from her sister. There must be three calculations and three different 1099-R forms. Susan may not understand things as well as she should if she is furnished three 1099-R forms issued to Susan. Admittedly, two will have a reason code 4 and one will have a 7.

Email Consulting Guidance – Inherited IRAs

Email Consulting Guidance – Inherited IRAs

Posted by James M. Carlson
January 2022

Q-1. We have some confusion surrounding the SECURE Act and the death of a 1st generation beneficiary of an Inherited IRA.

IRA account owner died in 2015 naming his father as beneficiary . An Inherited IRA was opened for Father as bene of Son’s IRA. Father named his wife (Son’s mother) as beneficiary of the Inherited IRA. Father died in 2022. The RMD has not yet been taken, and of course, must be withdrawn. What is the appropriate way to proceed with future RMDs? Do RMDs continue as previously calculated for the second generation beneficiary as a spouse beneficiary to the 1st generation beneficiary? Or, is the spouse subject to the 10-year rule since they are not the spouse of the original account owner?

A-1. Your last question/statement/situation is correct. Upon the death of a grandfathered IRA beneficiary who was using the life distribution rule, the next beneficiary is required to close the inherited IRA by using the 10-year rule. The next beneficiary is unable to continue the schedule which applied to the deceased beneficiary. This is required even if the beneficiary is the spouse of the deceased IRA beneficiary. There is no special rule or treatment of a spouse beneficiary of an inherited IRA.

So, she as the next beneficiary must withdraw the 2022 RMD as calculated for her deceased spouse by 12/31/2022. She will then use the10-year rule to close the inherited IRA. Her deadline is 12/31/2032 or is it???????.

See page 11 from the 2020 version of Publication 590-B. The IRS says the 10-year period ends on the 10th anniversary of the beneficiary’s death So, if the person died on 1/15/2022. The 10th anniversary would be 1/15/32. This might be the deadline rather than 12/31/2032.

The IRS should furnish additional guidance on this situation and it will when it writes its proposed and final regulation. Although the IRS should, the IRS rarely explains why it adopts a certain position. I would argue- the IRS should not have this special rule where the deadline is the 10th anniversary rather than 12/31.

Email Consulting Guidance – Can’t Show a Distribution Made in 2022 as a 2021 Distribution

Email Consulting Guidance – Can’t Show a Distribution Made in 2022 as a 2021 Distribution

Posted by James M. Carlson
January 2022

Q-1. I have a client that did not take their 2021 RMD. They are now coming to us wanting us to fix it. They said that they signed up for an auto distribution but we do not have paperwork showing this. Is there anyway to still do a 2021 distribution. What is the best way to handle this?

A-1. There is no way to show that the distribution occurred in 2021 if it did not. It would be tax fraud to report a distribution occurring in 2021. The law does not depend upon whether the client or the bank or both were at fault.

The individual should withdraw their 2021 RMD as soon as possible. The client will have two RMDs in 2021 because the person includes a distribution in their income in the year they receive the distribution.

The individual can ask the IRS to waive the 50% tax which applies when a person has an excess accumulation. That is, they failed to withdraw all of their RMD. The individual should read the instructions as set forth in the instructions for Form 5329. The individual is permitted to prepare this form showing that they do not owe the 50% tax amount because they are allowed to assume the IRS will waive the 50% penalty.

The individual must in writing request the waiver and explain why the IRS should grant the request. The individual if they truly believe it was the bank’s mistake may make that argument. The IRS is not required to waive the 50% tax.

The bank may furnish a letter to your client admitting fault or partial fault if there is some evidence the bank made an error. The client would attach the bank’s letter to their request for waiver.

Email Consulting Guidance – Inherited IRAs

Email Consulting Guidance – Inherited IRAs

Posted by James M. Carlson
January 2022

Q-1. Grandmother passed away In October 2021. She was 90. Her beneficiaries are her granddaughters. Grandmother had not taken her RMD yet. The granddaughters aren’t coming in. Do I just send them each a check for their share and then wait till next year to divide what’s left?

Their RMD share would be 658.17. Their portion of IRA would be 7602.42 each.

And how do I code them, just death benefit. ??

A-1. I see two likely courses of action.

1. The first is the action you suggest - make a distribution to each beneficiary for $658.17.

2. You can inform them that if they don’t withdraw the $658.17 by 12/31/21 that each technically owes the 50% tax or $329.09 unless the IRS would agree to waive the 50% tax because equity and fairness requires it. I’m not sure the IRS would agree that due to the death occurring so late in the year (???) that the withdrawal by 12/31/21 was unreasonable. If a beneficiary misses an RMD deadline, the beneficiary must file Form 5329 and complete Part IX informing the IRS the beneficiary had missed taking the RMD.

I suggest what you suggest. Set up the 2 inherited IRAs and pay each beneficiary the $658.17 before year end.

As for the remaining balance each beneficiary will be using the 10-year rule. There is no specific RMD for 2022-2030, but the inherited IRA must be closed by 12/31/2031. The general tax rule is - the beneficiary must include in their income any amount withdrawn during that year.

Q-1A. If I remember correctly. I would take their RMD out first and then the remaining money be divided and new IRA’s would be made unless they want to cash them all in.

A-1A. I’m not sure what you mean by first taking out their RMD amount for 2021. Each beneficiary is to receive their own Form 1099-R. Each beneficiary will receive or inherit 50%. There is no requirement that their share of the 2021 RMD needs to be withdrawn first. The entire inherited balance may be transferred into the inherited IRA and then each beneficiary may take their share of 2021 RMD or the beneficiary may take out more.

Email Consulting Guidance – CRP Contract as an IRA Investment

Email Consulting Guidance – CRP Contract as an IRA Investment

Posted by James M. Carlson
December 2021

Q-1. Mike, age 55, has a $463,000 self-directed IRA to which FB is custodian.

Mike directed the purchase of 160 acres of farmland from his IRA to which we complied.

After the purchase and receiving the deed, Mike informed us that we need to bring the recorded deed to our local FSA office to change the CRP contract to the IRA name.

The person handling CRP contracts has never put a non-individual as owner of a contract and seems to think that it won’t be allowed but really has no basis for that opinion.

We understand this is a gray area and we’ve done our due diligence as far as making sure we are only custodian of his IRA and making sure he signs off on all investment directives.

Have you ever seen a governmental contract such as CRP payment being paid to an IRA? Do you have any knowledge if this would be prohibited?

A-2. There is no IRA law prohibiting this investment (a CRP contract) as an IRA investment.

Further research would be needed to see if there are any “farming” laws or regulations prohibiting an owner (which is an IRA) from participating in the CRP program. One would think the public policy does not change because the owner is an IRA. I would want to review a written explanation if the explanation came back that the IRA is ineligible to participate in the CRP program.

Email Consulting Guidance – Roth Conversion

Email Consulting Guidance – Roth Conversion

Posted by James M. Carlson
October 2021

Q-1. I have another unusual situation I’d like to run by you. AB serves as custodian for an IRA that holds three rental properties. One of the rental properties is a condo recently purchased by the IRA for about $180,000. The Account Holder also has a Roth IRA with I cash and securities worth about $90,000. The client has asked if there is any way to get the condo out of the IRA and into the Roth. He is willing to accept a taxable distribution up to $90,000.

So a few issues to consider. First, is there any way to produce this result that does not violate any of the self-dealing rules? Second, is there a way to accomplish this with minimal income tax consequence to the account holder? Any insight you can provide is appreciated.

A-1. I understand a person is allowed to convert an in-kind asset within a traditional IRA to a Roth IRA. You mention the condo currently has a value of approximately $180,000. Does the traditional IRA have any debt related to this condo investment?

The critical requirement is - what is the FMV of the condo as of the time/date it is converted? You mention that he is willing to accept a taxable distribution up to $90,000. He doesn’t get to vote. I don’t believe he can’t convert only part of the condo. For example 50% this year and 50% next year:

If there is no debt and he converts this condo, he will be required to include $180,000 in his 2021 taxable income. I assume he has no basis in any of his traditional, SEP or SIMPLE-IRAs.

If there is debt of $90,000 on the condo so the traditional IRA’s equity in the condo is $90,000, then he would include only $90,000 in his income for 2021. I assume there would be some legal costs in making the change in ownership from being his traditional IRA to his Roth IRA. He would need to verify this with his tax adviser or attorney. The financial institution making the loan to his traditional IRA or Roth IRA should be independent of AB. There would also be some legal costs in changing the loan documentation. The borrower would be the Roth IRA versus the traditional IRA.

There is discussion in Congress that the Roth IRA conversion rules might be changed by Congress and President Biden.

Email Consulting Guidance – HSA Transfer Mistakes or Difficulties

Email Consulting Guidance – HSA Transfer Mistakes or Difficulties

Posted by James M. Carlson
February 2022

Q-1. I have two HSA customers that we opened their HSA accounts in July of 2021 with a HSA transfer check from their prior HSA custodian BASC. This was coded as a transfer and they have had access to this money since July 2021. Both customers said that this now zeroed out their HSA accounts with BASC.

On Tuesday, I received two checks from BASC. The checks are made out to First State Bank and then the customer’s name. The transfer paperwork that was signed at the end of June 2021 to transfer this money was included with both checks. Clearly they have made an error and paid these accounts out twice. I have called BASC twice and have gotten nowhere as they say they cannot release any information to me. The one customer has, also, called them twice and has been told both times that we (First State Bank) need to deposit these checks in their HSA accounts and code them as a transfer or they will be taxed. BASC indicated to her that they made an error and this transfer never occurred in July 2021. Obviously that is not true as we have had the money since July 2021.

What would you suggest I do? Should I deposit these checks, code them as a transfer and wait until they discover their error? Should I send the checks back? I do have a copy of the checks they sent in July that opened these accounts as proof that we did receive this money. I’m just not quite sure how to proceed in the best way for both of them.

A-1. A transfer requires the consent of both HSA custodians. There is no requirement that FSB endorse the checks.

Was a transfer form furnished - twice, once or not all?

You could return them and explain why in writing. BASC has no right to adopt the position that if FSB fails to sign the checks that the individuals will be treated as having received a taxable distribution.

What do your customers want done?

If the customers believe they are entitled to these funds I believe you could process these transactions as a transfer. FSB could adopt the approach - the customer must assume full responsibility for these transfers and if he or she later comes to FSB and informs you that these contributions must be treated as an excess contribution and that then they agree to pay a ??? fee ($50.00) for all the work related to correcting the excess.

The more conservative approach is - return the checks unsigned.

IRA Contribution Limits for 2021 - Unchanged

October 2020

IRA Contribution Limits for 2021 – Unchanged $6,000 and $7,000

The 2021 maximum limits for annual traditional IRA and Roth IRA contributions remain

the same at $6,000 (if under age 50) and $7,000 (if age 50 or older). For 2020 the limits are also $6,000 and $7,000. Federal tax law provides for a change in the contribution limit once the cost of living adjustment equals or exceeds $500. The annual contribution catchup for individuals age 50 or older remains at $1,000 as it is not indexed. Note on page 2 that the compensation limits used to determine the amount an IRA owner who is an active participant is able to claim as a tax deduction for their traditional IRA contribution have increased.

The 2021 maximum contribution limit for SEP-IRAs is increased to $58,000 (or, 25% of compensation, if lesser) up from $57,000. The minimum SEP compensation limit used to determine if an employer must make a contribution for a part-time employee has increased to $650 from $600.

The 2021 maximum contribution limits for SIMPLE-IRAs have not changed. It is $13,500 if the individual is under age 50 and $16,500 if age 50 or older. The catch-up amount of $3,000 has not changed.

The 2021 maximum elective deferral limit for 401(k) participants also has not changed. It is $19,500 for participants under age 50 and $26,000 for participants age 50 and older. The catch-up amount of $6,500 has not changed.

Contribution limits for a person who is notage 50 or older.

Tax Year Amount

2008-12 $5,000

2013-18 $5,500

2019-21 $6,000

Contribution Limits for a person who is age 50 or older.

Tax Year Amount

2008-12 $6,000

2013-18 $6,500

2019-21 $7,000

IRS Guidance on Tax Treatment of Expenses Related to a Qualified Birth or Adoption Distribution

October 2020

IRS Guidance on Tax Treatment of Expenses Related to a Qualified Birth or Adoption Distribution

The SECURE Act created another exception to the 10% additional tax of Code section 72(t). There is now an exception for expenses on account of a birth or an adoption of an individual. Code section 72(t)(2) sets forth the exceptions to the 10% tax. Sometimes an exception applies only to a distribution from an IRA or from an employer retirement plan and sometimes to both. A distribution from either an IRA or a 401(k) plan may qualify for this new exception.

A person is required to include a qualified birth or adoption distribution in their gross income, but the person does not owe the 10% additional tax. A qualified birth or adoption distribution is any distribution of up to $5,000 from an eligible IRA or other applicable retirement plan to a person as long as the distribution is made during the 1-year period beginning on the date of birth of the individual’s child or the date the legal adoption of an eligible adoptee by the individual is finalized.

This section of the article focuses on a qualified birth or adoption distribution from an IRA.

A person who has received a qualified birth or adoptiondistribution is authorized to recontribute the distribution to an eligible plan to which a rollover may be made. A recontribution is another type of rollover. The IRS will in future guidance discuss the recontribution rules, including the rules related to the timing of the recontributions. The statute failed to discuss the deadline for making a recontribution of a qualified birth or adoption distribution and so the IRS will need to furnish guidance. This should be defined in a technical correction tax bill.

The IRS has clarified the following. An individual may receive a qualified birth or adoption distribution of up to $5,000 with respect to the same child or eligible adoptee. If a person is related to multiple births or adoptions, the person may have a qualified birth or adoption distribution with respect to each child or eligible adoptee. If a person is married, each parent may receive a qualified birth or adoption distribution of up to $5,000 with respect to the same child or eligible adoptee.

An eligible adoptee is any individual who has not attained age 18 or is physically or mentally incapable of self-support. A person is considered to be physically or mentally incapable of self-support if the person is disabled as defined in Code section 72(m)(7). That is, the individual is unable to engage in any substantial gainful activity by reason of any medically determinable physical or mental impairment that can be expected to result in death or to be of long-continued and indefinite duration. However, an eligible adoptee cannot include an individual who is the child of the taxpayer’s spouse.

How does an IRA custodian report these transactions? Code “1” will be used in box 7 of the Form 1099-R. The recontribution (i.e rollover) is to be reported in boxes 14a and b as a repayment. The repayment amount is reported in box 14a and enter “BA” in box 14b for repayment of a qualified birth or adoption distribution. It is not to be reported in box 2 as a rollover or in box 13a as a late certified rollover.

The individual will need to complete their tax return to show their was a qualified birth or adoption distribution. Presumably, the individual will do this by completing the applicable section of Form 5329 and claim exception to the 10% additional tax and attach it to his or her tax return. The individual must include the name, age, and the taxpayer identification number of the child or the eligible adoptee on their tax return for the tax year in which the distribution is made.

If the individual makes a rollover or repayment contribution, then the individual will need to show such rollover contribution on their Form 1040.

This section of the article focuses on a qualified birth or adoption distribution from a 401(k) plans or other defined contribution plan.

An employer is not required to amend its plan to permit an in service distribution which qualify as a qualified birth or adoption distribution. Such an amendment is a discretionary amendment. It is not a mandatory amendment.

If a plan sponsor chooses to amend its plan to provide or a qualified birth or adoption distribution, it must do so by the last day of the first plan year beginning on or after January 1, 2022.

A plan sponsor may rely on a participant’s certification that he or she is eligible for a qualified birth or adoption distribution. If a plan permits a participant to take a qualified birth or adoption distribution, then such plan is required to permit that participant to make a recontribution if such participant is otherwise eligible to make a rollover contribution.

The 401(k) rules restrict the in-service distributions which may be made to a participant. However, there are exceptions, including an exception for certain hardship distributions. A qualified birth or adoption distribution is treated as meeting such an exception. Thus, if the applicable rules are met a participant may withdraw their elective deferrals. qualified non-elective contributions, qualified matching contributions or a safe harbor contribution.

With respect to a participant who is taking a qualified birth or adoption distribution, the plan sponsor is not required to offer a direct rollover or to provide a section 402(f) notice. Because there is no duty to offer a direct rollover the 20% mandatory withholding rule does not apply. The standard withholding rules will apply.

Even though a participant is ineligible under the plan for an in service distribution qualified birth or adoption distribution, such participant may treat on their tax return an otherwise permissible in-service distribution as a qualified birth or adoption distribution.

The IRS will need to issue guidance on the subject, if a participant takes a qualified birth or adoption distribution from their 401(k) account, then is the participant able to make a rollover contribution into the plan or may the person make a rollover into their IRA. At this time we believe the participant may rollover their qualified birth or adoption distribution from their 401(k) plan into their IRA and not into the distributing 401(k) plan.

In summary, there is a new exception to the 10% additional tax which generally applies when a person under age 591/2 takes a distribution from an IRA or pension plan. The new exception is for a qualified birth or adoption distribution.