Rollover or Return of Contribution

Submitted by Edward Czapor on Thu, 2014-02-27 01:42

Client did an IRA rollover to a new IRA that consisted mostly of their rollover ineligible RMD. This IRA was closed in the same year correcting the excess contribution. Being unaware of the ineligible rollover, client did not request a return of contribution. The distribution from this IRA did contain a small portion that was rollover eligible due to RMD distributions from another IRA prior to the rollover.

Can the entire distribution be lumped as a return of contributions, or must the rollover portion remain intact? This account had negative earnings, and accounting for the rollover eligible portion results in negligible tax saving. For simplicity on the tax return, a 100% return of contribution is preferable for explaining this transaction and the 1099-R distribution

Ed C.



Submitted by Alan - IRA critic on Thu, 2014-02-27 16:21

  • Ed, addressing this in the proper way, the solution is expensive due to the unique order and type of transactions. I assume client has 1099R forms showing normal distributions rather than a corrective distribution required to erase the excess amount, leaving the excess amount uncorrected to date. The solution would require another distribution this year to erase the excess but leave client with a 6% excise tax for prior year(s?) and result in essentially doubling up on the RMD from prior year. And of course correction of an excess contribution cannot count as RMD for the year of the distribution.
  • There are certainly thousands of conversions being done before the RMD distribution, rollovers such as this one when taxpayer does not understand that the first distribution in an RMD year is deemed to apply to the RMD. But most of these taxpayers just report according to the 1099R, ending up with the RMD on 15b and rollover indicated with respect to the other distribution. Since the IRS is not aware of transaction dates without an audit, these are escaping detection. This no doubt explains all the articles warning that the RMD must be completed before the conversion, but none of these articles describe the corrective actions required when this happens, likely because taxpayers are not executing these actions. I will stop short of recommending that client does the same.
  • Another case where a direct transfer in lieu of the first rollover would have eliminated this rather unique chain of events.

Submitted by Edward Czapor on Fri, 2014-02-28 16:34

Alan, The problem here is that after subtracting the total RMD from the distributions from two IRA’s from which a rollover was available, the amount remaining is less than the amount rolled over. This in itself should indicate that at least a portion of RMD was rolled over, with an excess contribution. For this reason I chose not to just go with the rollover according to the 1099-R, although I am not sure if this would be recognized by IRS.The entire rollover IRA was distributed before year end so there is no excess contribution remaining or 6% penalty. The 1099-R for the rollover IRA indicates a normal distribution as you assumed, and custodian is unwilling to do a correction.  I filed the return with an exlanation that an RMD was rolled over, and that the distribution was a return of contribution. Should IRS insist on erronious rollover treatment, it will actually benefit the taxpayer. 

Submitted by Alan - IRA critic on Fri, 2014-02-28 18:25

  • I think you are depending on the IRS to assume that earnings were withdrawn even without the proper 1099R coding, based on the “total distribution” box being checked. If so, they would overlook the lack of a corrective distribution code on the 1099R per your explanation included, and that would of course eliminate the excess contribution from being reported. The IRS also may miss the fact there is an excess contribution to begin with, because the 5498 will report a rollover and they have nothing else to remind them that an RMD amount rolled over is an excess contribution.
  • However, if the IRS took the position that there is still an excess contribution, any IRA the taxpayer has would be included in the 6% excise tax computation per Form 5329 Inst lines 9-17. This makes sense because it eliminates the taxpayer from making non reportable transfers to drain an IRA balance.
  • What was reported on lines 15a and 15b may also play into this. Did you report the RMD as taxable and the later distribution as non taxable (adjusted for non RMD amount)? That’s technically correct, but good chance the IRS would not understand this unless your explanation included all the details.

Submitted by Edward Czapor on Sat, 2014-03-01 16:24

The total distributions from all three 1099-Rs were reported on line 15a. The taxable distribution reported on 15b was calculated as you describe in your last paragraph. This includes the RMD and an additional amount withdrawn. The IRS may miss the fact that there was any excess distribution, assuming the rollover is correct due to lack of transaction dates. I would guess that this is generally the case, the IRS relying only on the information as reported on a 1099-R. For this reason I am not too concerned about the explanationl being understood, since that calculation results in less tax than reported. I believe the return will be accepted as filed, with no delving into the transaction complications. We shall see.  

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