Depositing a restorative payment with a custodian different from where the loss occurred

Submitted by Jennifer Hansen on Wed, 2023-10-11 19:42

If someone gets a restorative payment from a settlement but the payment can’t be returned to the retirement account where the loss occurred (account closed, not safe, etc.) and if lawyers receive the settlement and can send on to a retirement account however is needed, what do they need to know? How should another custodian code the payment when they receive it? Is it a special kind of deposit? a special kind of contribution? A transfer? A rollover?

I know it can be deposited by lawyers with another custodian because there are examples of it in IRS rulings; just the logistics aren’t clear. Sometimes the term “rollover” is used but is it a direct rollover or a 60 day rollover (subject to the 1 a 12 month period rule)? Sometimes it says the payment may be “contributed” to the retirement account but it’s not subject to the annual contribution limit correct? And then sometimes it’s just vague how the money gets put into the retirement account.

Is there any official IRS documentation on this that I could point a custodian to so they would believe me on how to handle it?



Submitted by Alan - IRA critic on Wed, 2023-10-11 23:01

  • While there are plenty of PLRs establishing the eligibility of a restorative payment to be returned to a retirement plan, the IRS has never clearly stated the reporting procedures. Therefore, Form 5498 does not include a category for this. The legal firms that recover such losses do not uniformly handle the distribution process, but it is apparent that some IRA custodians have accepted these checks after endorsement of the IRA owner as non reportable transfers. The PLRs are clear that if these awards are rollovers, there is no time limit and there is no exposure to the one rollover limit. A 1099R may be issued by the legal firm, but usually there is no 1099R. If issued, the IRA owner is forced to report a rollover.
  • Therefore, IRA custodians do not handle this consistently, but even those that readily accept these payments should be sure that they qualify as legitimate restorative payments and do not include punitive damages.
  • If an IRA owner has a small custodian such as a small bank or CU, or perhaps an insurance company, the chances of acceptance are diminished. Some may not even know what a restorative payment is. The IRA owner may need to open an IRA with a larger experienced custodian that has an established policy for handling these. It may not be worth the effort to have to explain the entire concept to a small custodian.

Submitted by Jennifer Hansen on Wed, 2023-10-11 23:19

Thank you for the information!”The PLRs are clear that if these awards are rollovers, there is no time limit and there is no exposure to the one rollover limit.”How do we know that restorative payments aren’t subject to the one rollover limit per 12 month?  Is it still coded as 60 day rollover or a different type of rollover? This sounds like a key bit of information that I’m missing.  There was a lot of stress over the potential for the previous custodian to report it on a 1099R if it went to another custodian when some people have already done a rollover within 12 months.

Submitted by Alan - IRA critic on Wed, 2023-10-11 23:56

If a restorative payment to an IRA is considered a rollover, then would the once-per-12-months rule normally applicable to IRA-to-IRA rollovers (Internal Revenue Code § 408(d)(3)(B)) be triggered? In PLR 2007-19017, the IRS ruled that this type of addition was “not subject to…§ 408(d)(3).”  Quoted from IRA expert Natalie Choate.

Submitted by Jennifer Hansen on Thu, 2023-10-12 16:54

Thanks for the reference!  I ran into that quote from Natalie earlier and looked up her reference. She’s misquoting the PLR which actually says “will be considered to be restorative payments…. as such, will not be subject to the limitations on contributions found in Code sections 219 and 408.”  I found that much less conclusive than the quote she gave that specifically points to the part of the code about rollover contributions. I originally thought the quote in the PLR was referring to annual contribution limits but maybe she’s right and it also refers to limits on how often you can do rollovers also.  I wish a quote like the one she gave existed in a PLR somewhere.You’re insights are super helpful and appreciated.  It so hard to find people who have even heard of restorative payments.I’m also curious if there’s approaches to doing the deposit that are less likely to be audited or easier to explain in an audit.  If payer or lawyers report it on a 1099R as a distribution, then it should be deposited as a 60 day rollover?  If payer or lawyers report it as 1099 Misc also a 60 day rollover?  If no reporting is done by payer or lawyers, then it could be deposited as a transfer?   (Can anyone other than a custodian report it a distribution on a 1099R?)

Submitted by David Mertz on Thu, 2023-10-12 17:45

Section 408(d)(3) defines rollovers as a type of contribution, so where the PLR says,  “will be considered to be restorative payments…. as such, will not be subject to the limitations on contributions found in Code sections 219 and 408,” that includes rollovers.

Submitted by Jennifer Hansen on Thu, 2023-10-12 18:26

Thank you!

Submitted by Jennifer Hansen on Thu, 2023-10-12 18:30

I’m also curious if there’s approaches to doing the deposit that are less likely to be audited or easier to explain in an audit.  If payer or lawyers report it on a 1099R as a distribution, then deposit it as a 60 day rollover?  If payer or lawyers report it as 1099 Misc also deposit as a 60 day rollover?  If no reporting is done by payer or lawyers, then it could be deposited as a transfer?   (Can anyone other than a custodian report the payment as a distribution on a 1099R?)

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