If a taxpayer takes money out of their retirement account, they generally have to pay income tax on the amount distributed. What if the taxpayer wants to put the money back into the account?
There have been several examples where Congress has allowed taxpayers to put money back into their accounts. The recent CARES Act is an example. The legislation for those impacted by Hurricane Harvey is another example. These laws generally allowed taxpayers three years to return the distributions to avoid paying tax on the distributions.
The 60-day rollover time limit for returning IRA funds is another example. Unlike the CARES Act or Hurricane Harvey rules, the 60-day rollover is available to everyone. And it is not necessarily limited to just 60-days. Those who have a disability, death in the family, etc. can apply to waive the 60-day period at any time. This can be waived years after the fact, potentially. And it can be waived administratively by the IRS in some cases.
One of the more difficult aspects of applying for the waiver is determining what counts as a disability? This issue has not been litigated as heavily as the Section 104 income exclusion for physical injuries and sickness.
Where is the line in the sand? Can stress count as a disability and therefore justify a waiver of the 60-day rollover period? If so, what if the stress lasts for several years, and the funds were not re-deposited within this time?
The court recently touched on this issue in Seril v. Commissioner, T.C. Memo. 2020-101. A full four years elapsed since the IRA distributions were made. The taxpayer requested a waiver of the 60-day period after this four year period.
Facts & Procedural History
The taxpayer’s son graduated from high school and started attending Morehouse College. The taxpayer had filed for divorce and litigation was in process during this time. She took distributions from her IRA totaling $54,500. The court notes that she was under “stress” at the time.
In reporting the IRA distribution, she listed the $54,500 on her tax return. She reported that only $39,500 of this amount was subject to tax.
The IRS’s computer matching system flagged the tax return and sent a CP2000 notice. The taxpayer did not respond timely to the notice. When she did respond, she explained that she intended to put the $15,000 back into her IRA and she never got around to doing so.
The U.S. Tax Court had to consider whether the 60-day rollover rule should be applied.
60-Day Rollover Rule
Distributions from retirement accounts are generally taxable. There are exceptions, however. The 60-day window for rolling funds to another retirement account is one example.
This exception allows the taxpayer to receive the IRA distribution and have the use of it for 60 days and not trigger tax, as long as the funds are put back into a retirement account within 60 days of distribution.
Some have used this exception as a temporary loan from their retirement accounts. This used to be more common, as taxpayers could take these temporary “loans” over and over again–several times a year.
The courts have previously curbed this practice by concluding that the law only allows 60-day rollovers once a year.
The penalty for not remitting the funds in 60 days is high. It results in the distribution being subject to income tax and, if the recipient is under the age of 59.5 as in this case, the 10% additional tax on early withdrawals.
60 Days is Not 60 Days
The 60-day requirement is not as strict as one may think. The IRS has the authority to waive the 60-day time period. It can do so when it “would be against equity or good conscience, including casualty, disaster, or other events beyond the reasonable control of the” taxpayer.
The IRS is to consider all of the facts in making this determination. These facts include:
- errors committed by a financial institution;
- inability to complete a rollover due to death, disability, hospitalization, incarceration, restrictions imposed by a foreign country or postal error;
- the use of the amount distributed (for example, in the case of payment by check, whether the check was cashed); and
- the time elapsed since the distribution occurred.
This is set out in Rev. Proc. 2003-16, 2003-1 C.B. 359 and Rev. Proc. 2016-47, 2017 I.R.B. 346.
The IRS is authorized to grant this waiver at any time. It can even be made years after the fact.
Rev. Proc. 2003-16 establishes a letter-ruling procedure for taxpayers to apply to the IRS for a waiver of the 60-day rollover requirement. Rev. Proc. 2016-47 even provides for automatic approval in the case of an error of a financial institution. This same guidance allows the IRS to waive the 60-day rollover requirement on audit by the IRS.
Against Equity or Good Conscience
In this case, the court did not waive the 60-day rollover rule. The court concluded that there was no error by a financial institution and no death, disability, etc. The court also noted that the taxpayer did not attempt to put the $15,000 back into the IRA for four years. Thus, according to the court, the failure to grant a waiver is not “against equity or good conscience.”
What is “against equity or good conscience” is a highly subjective standard. Compare the facts in the present case with those in Trimmer v. Comm’r, 148 T.C. 334. In Trimmer, the same court held that depression was sufficient to show that it would be “against equity or good conscience.” It did so even though the taxpayer in Trimmer was still able to carry out his financial affairs and keep a job at the time:
In reaching this conclusion we are mindful that, as respondent points out, Mr. Trimmer was not totally inactive during the relevant period—he wrote some checks at the behest of his wife and sons, and he deposited the checks from the two distributions into the bank before the rollover period had expired. We are not persuaded, however, that the fact that Mr. Trimmer was able to perform these relatively routine tasks, generally at the prompting of family members, meant that he was also capable of initiating and carrying out the more involved process of identifying another eligible retirement plan into which to roll over the funds and ultimately setting up an IRA in which to deposit the checks. If anything, the fact that he left two checks totaling over $100,000 on his dresser at home for over a month before depositing them in the bank vividly evidences his impaired mental condition. And although on cross-examination respondent elicited from Mr. Trimmer a “Yes” in response to a question whether he had worked part time as a high school referee “during 2011 and 2012”, on the basis of all the evidence in the record and general life experience we do not believe that Mr. Trimmer was refereeing high school basketball games during the summer of 2011 or at any other relevant time.
The taxpayer in Trimmer produced evidence of his depression. This included testimony from a medical expert. This established the taxpayer’s “disability.”
The taxpayer in the present case did not present this type of evidence.
The court in the Trimmer goes on to note that the IRS has issued waivers in private letter rulings based on similar facts:
- Priv. Ltr. Rul. 201535029 (Aug. 28, 2015) (waiver granted to taxpayer suffering from “mild cognitive impairment and moderate clinical depression”, who was “not aware that he did not roll over Amount 1 to another IRA until his tax return for 2013 was being prepared”);
- Priv. Ltr. Rul. 201323044 (June 7, 2013) (waiver granted to taxpayer who was “under extreme stress following the loss of his job”);
- Priv. Ltr. Rul. 201130013 (July 29, 2011) (waiver granted to taxpayer who asserted that failure to complete the rollover was “due to his depressed condition following his separation from his spouse”);
- Priv. Ltr. Rul. 200949052 (Dec. 4, 2009) (waiver granted to taxpayer who was “overwhelmed by his mother’s death and sank into a deep depression during his period of grieving”)
The facts in these rulings are closer to the facts in the present case. This is particularly true of PLR 201130013.
In the present case, the taxpayer was going through a divorce and dealing with the pending litigation. Her child was moving on to college. The court noted the taxpayer was under “stress” at the time.
The court does not explain what “stress” the taxpayer suffered at the time. It isn’t clear whether this means financial stress or emotional stress. It also does not provide any facts to gauge the level of stress. Presumably, this evidence was not presented to the court.
Those seeking a waiver for the 60-day rollover period may want to request a letter ruling first. These waivers can help avoid tax and tax penalties. They can be granted long after the 60-day period has expired.
With these requests, it is helpful if the funds were held on account rather than used. The IRS expects to see this proof attached included with the letter-ruling request.
Many of these rulings are taxpayer-favorable. They are not all consistent, but many of the rulings lead one to believe that stress could qualify.
In the taxpayer opts to litigate the matter in tax court, he should take care to establish that there was an error by a financial institution or, as the taxpayer did in the Trimmer case, that there was a disability.
Evidence showing that the taxpayer was under stress is not going to be sufficient for the court. A safer route would be to prove up depression, given that the court has already said that depression can qualify.