Beneficiary IRA retitled as Traditional IRA
I have a new client who inherited a retirement account from a brother in 2003. Client was 47 at the time of her brother’s death, 48 at year end, 2003. I do not know if she (the client) took RMDs in 2003. The original account value was approximately $300,000.
In 2003 or 2004, her broker rolled her Beneficiary IRA account into an Annuity and somehow changed the account type from Beneficiary IRA to Traditional IRA. The client took $6,400 in distributions in 2004 from the “beneficiary” IRA, $56,000 in 2005. Then, in 2006, when the client requested funds from the “beneficiary” IRA, the broker TRANSFERRED THE FUNDS TO AN IRA ROLLOVER ACCOUNT that my client owned, and disbursed funds from that account. ($55,385). The broker also told her that his office needed to do her tax return. I reviewed the 5329, and see that the broker coded the exception to the penalty as #2, part of a sched. series of substantially equal periodic payments! So far this year, he has transferred at least $40,000 from the beneficiary IRA into the rollover and then disbursed the funds to her.
I don’t know what to do. I don’t know what to do about the Beneficiary IRA being incorrectly retitled as a Traditional IRA. I don’t know if she is still entitled to the stretch-out option on the beneficiary IRA, for two reasons. 1) she may not have taken sufficient distributions in the early years (2003 & 2004) and 2) because of the transfers and subsequent disbursements from the IRA Rollover account rather than from the Beneficiary IRA.
I don’t know what to do about funds being incorrectly moved from a beneficiary IRA into a traditional IRA.
I don’t know what to do about the establishment of the scheduled series of substantially equal periodic payments.
Any suggestions?
Permalink Submitted by Alan Spross on Tue, 2007-10-30 04:15
First suggestion is to protect yourself in writing from the consequences of any recommendation you make, if you accept this client.
As stated, this client has a fully taxable $300,000 distribution because a non spouse inherited IRA cannot be assumed. Therefore, it makes little difference if the change was done by rollover or direct transfer. Sad part of this is that there was never a need for a 72t because the account was inherited and there would not be any penalty. I wonder if the broker mistook the decedent to be a spouse.
In any event, I do not know how long the statute runs for failing to report huge amounts of taxable income, notwithstanding that some of it has already been distributed and reported. Therefore, client is in the middle of a tortuous waiting game to see if/when the IRS matching of info and tax returns generates an inquiry. Interest potentiall continues to accrue.
Perhaps the paperwork should be reviewed to see the relative amounts of “contributary negligence” between the client and the broker for this error. To proceed against the broker, the client will have to be nearly blameless. It is quite possible that the broker is aware of the error and plans to outwait the IRS. I can’t provide specific advice on this one, as there is no letter ruling I am aware of that has granted relief for this particular situation of faulty IRA registration.
Permalink Submitted by Maura Van Heuit on Tue, 2007-10-30 17:05
The broker very clearly knew the beneficiary was his sister, not a spouse. I have the original letter requesting the rollover clearly identifying the deceased as her brother.
Permalink Submitted by Alan Spross on Wed, 2007-10-31 00:02
Then this appears to be the broker’s error. But you are still in a difficult position, because the IRS would probably pursue the taxes from the client and then the client could proceed against the broker, with the question of success complicated by how much of the legal fees are recoverable.
Almost all IRS rollover relief addresses the 60 day rollover issue on distributions eligible for rollover. But this one was not eligible.
To make matters worse, there is also an excess contribution to her IRA that incurs a 6% excise tax every December 31st if not correct by the extended due date. Thus the fallout here involves an ugly combination of taxes, penalties, plus interest on the tax and penalty.