Taxpayers often withdraw funds from their IRAs to cover short-term expenses with the hope that they can put the funds back in their IRA within the 60-day window for making a tax-free IRA rollover. This can work out well when taxpayers put the funds back into their IRAs within 60 days.
When taxpayers miss the 60-day window, things can get a bit harry. These delinquent taxpayers are forced to ask the Internal Revenue Service to waive the 60-day time period. The IRS can do this based on “equity” and “good conscious.” The IRS just released two new private letter rulings based on “equity” and “good conscious” which provide an opportunity to consider what these terms mean.
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About IRA Distributions
We need to start with the IRA distribution rules. These rules are set out in the tax code.
Section 408(d)(1) states that any amount paid or distributed out of an IRA must be included in the individual’s gross income in the manner provided in Section 72. This means that the amount distributed from the IRA is subject to taxation based on the individual’s tax bracket.
However, Section 408(d)(3) provides an exception to this rule for IRA rollovers. Specifically, Section 408(d)(3)(A) states that Section 408(d)(1) does not apply to any amount paid or distributed out of an IRA if the amount received is paid into an IRA for the benefit of the individual not later than the 60th day after the day on which the individual receives the distribution. This means that if the individual receives a distribution from their IRA, they can avoid paying taxes on the amount if they roll it over into another IRA within 60 days.
Additionally, Section 408(d)(3)(A) requires that the entire amount be paid to an eligible retirement plan not later than the 60th day after the date of the distribution. This means that the entire distribution must be rolled over into an eligible retirement plan, such as another IRA or a 401(k), within the 60-day period.
Section 408(d)(3)(D) contains similar rules for partial rollovers, where only a portion of the distribution is rolled over into another eligible retirement plan.
What are Equity and Good Conscious?
With these rules in mind, we can consider the two private letter rulings that the IRS issued today. Let’s start with Private Letter Ruling 200704040. According to the letter ruling, the taxpayer withdrew monies from his or her IRA retirement account in order to purchase a home. The credit union that held the IRA told the taxpayer, incorrectly, that the funds must be deposited in another IRA on the date that was 62 days from the date of withdrawal.
The credit union admitted that its employees miscalculated the 60-day period and the credit union, upon consultation with their tax attorneys, paid the fees associated with making the IRS private letter ruling request. The IRS held that the taxpayer’s reliance upon the date provided by the credit union was sufficient to waive the 60-day requirement.
Compare this to Private Letter Ruling 200704042. In this letter ruling the IRS refused to waive the 60-day period for rolling funds over to a new IRA. The facts for this ruling were that the taxpayer suffered a mental impairment.
The taxpayer’s representative (probably a family member who was acting pursuant to a power of attorney document prepared by the taxpayer), withdrew the taxpayer’s IRA funds to pay for the taxpayer’s medical bills – not realizing the tax consequences of withdrawing money from the IRA.
Upon consultation with a tax attorney, the representative submitted a ruling request to ask the IRS to waive the 60-day requirement. The IRS held that the taxpayer’s representative’s lack of knowledge about our tax laws was insufficient to waive the 60-day requirement.
What is Equity and Good Conscious
So what are “equity” and “good conscious” in the context of IRA rollovers? Equity refers to fairness and justice, while good conscious refers to honesty and moral principles.
In the first private letter ruling, the IRS waived the 60-day requirement because the taxpayer relied on incorrect information provided by the credit union. The credit union admitted its mistake and paid the fees associated with the ruling request. This ruling suggests that the IRS considered the fairness and honesty of the situation in making their decision.
In contrast, the second private letter ruling shows that the IRS may not waive the 60-day requirement if the taxpayer or their representative does not understand the tax consequences of withdrawing money from an IRA. The taxpayer’s representative in this case withdrew the funds to pay for medical bills without realizing the tax consequences. The IRS denied the waiver request because the representative’s lack of knowledge about tax laws was not sufficient to waive the 60-day requirement. This ruling suggests that the IRS considered the moral principles of the situation in making its decision.
The Takeaway
These two private letter rulings show that the IRS has the discretion to waive the 60-day requirement based on fairness, honesty, and moral principles. Taxpayers should try to meet the 60-day deadline for repatriating their IRA funds and should work with competent and honest tax and financial advisors. Taxpayers should not rely on family members or friends who may not understand the tax consequences of IRA withdrawals. Ultimately, the lesson for taxpayers is to be diligent and informed when it comes to managing their IRAs and to seek professional advice when necessary.
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