Traditional IRA created with non-qualified funds

Submitted by Renee Gibson on Sat, 2017-03-25 22:25

In 2013, financial advisor at major brokerage firm created traditional IRA with non-qualified funds (~110K) from client’s mutual fund account. Account owner did not have any previous IRA or 401Ks or pension accounts. In 2015, account owner became aware of the IRA erroneous creation problem and contacted a tax attorney, who, in 2016, filed amended returns to pay taxes on the gains/interest of the “non-IRA” (versus treating it as excess contributions) and attempted to get brokerage firm to reclassify the account as a brokerage account and reissue 1099s. The account owner did not take any deductions for TradIRA contribution in years 2013-2016 while the IRA account was open. The amended returns were not accepted without supporting corrected1099s.

At the same time, account owner also became aware of securities fraud in her accounts and initiated FINRA claims against the two brokerage firms in fall of 2015 (financial advisor had moved accounts to second brokerage firm in 2014). The financial advisor was subsequently fired and lost his license in spring 2016. To date, the account owner has been unable to get the first brokerage firm to reclassify the IRA and issue amended 1099s although account owner is still negotiating the FINRA claim with them.

Due to the securities fraud problems in owner’s account, both the IRA and brokerage account were closed in 2016 and moved to a third, more reputable firm. Account owner closed the IRA because they did not want to perpetuate the invalid IRA account and was led to believe by the tax attorney that they would be able to get the account reclassified to brokerage account. And account owner also thought it would be resolved through the FINRA complaint. Account owner now has the 2016 1099-R distribution tax liability of $25K that is not applicable.

Account owner has worked with the Tax Advocate’s office when amended returns were first rejected. Account owner has now contacted the US Senator’s office who is coordinating with the Tax Advocate’s office again, in addition to contact with brokerage firm via organization representing them in securities fraud complaint.

Any clarity on how this problem should be addressed would be welcomed.



Submitted by Alan - IRA critic on Sun, 2017-03-26 00:49

There are just too many contingencies and parties involved in digging this hole that it would take a forensic analysis to determine if any additional actions should be taken before the ones already pending are concluded. The IRA account has already been fully distributed in 2016 which will end any additional 6% excise taxes for excess contributions. Form 5329 would be filed for 2013-2016 and these cumulative forms will apply the excess to any TIRA contribution space the person did not use for 2014-2016. However, that would not reduce the excise taxes much @ 5500 per year. As for the current 1099R form, this letter ruling should allow basis to be applied since no deduction was taken: https://www.irs.gov/pub/irs-wd/0904029.pdf. That would avoid double taxation, however the taxpayer advocate should be able to advise whether the distribution and 5329 forms should be reported if there is any chance of re titling the original IRA as a taxable account.

Submitted by Renee Gibson on Sun, 2017-03-26 13:16

Is there a time limit for re-titling the IRA account that was created in 2013, similar to time to file amended return for 2013. Supposedly, the brokerage firm claims that IRS indicated it is too late to reclassify/re-title. Or since they have a FINRA complaint that they are disputing (not in arbitration yet), they don’t want to potentially face further liability?

Submitted by Alan - IRA critic on Sun, 2017-03-26 16:50

  • At this point none of the parties are going to step up and take any action until they are required to do so by the IRS or other authority. However, there is no time limit to have the IRA treated as a taxable account, but it is unlikely to be re titled now that it no longer exists. In other words, if an authority such as the IRS makes a ruling, possibly a private letter ruling,  such as accepting the former amended returns or additional returns in lieu of the 1099R, there would be some relief. Any of these actions take considerable time including a pricey letter ruling request and a tax attorney who specializes in that area should be able to recommend any action the person should take in the interim. I would avoid the first tax attorney based on the earlier activity.
  • If the 1099R must be reported, then perhaps Form 8606 should be filed for 2013 reporting the entire contribution as non deductible to allow PLR 2009 04029 to be properly reflected if the 1099R must be reported.

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