A Guide to IRA Reporting and Compliance

Transcription

1 A Guide to IRA Reporting and Compliance September 1, 2017 JM Consultants 6930 Glory Road Baxter, MN Rev. 9/2017

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3 A Guide to IRA Reporting and Compliance Written by JM Consultants JM Consultants Mission Statement is to provide the best possible IRA products and services at the most reasonable prices. The purpose of this manual is to provide the most up-to-date and comprehensive IRA information possible. The material in this manual is believed to be the most up-to-date available as of the revision date. However IRA rules, regulations and procedures change often. Consequently the accuracy of this manual cannot be guaranteed. If you have any questions about anything in this manual please do not hesitate to contact JM Consultants at or call Please Note: JM Consultants does NOT provide legal, accounting, investment or tax advice. In important matters like this you must always rely on your own legal, accounting, investment and tax professional before finalizing any decision. JM Consultants 6930 Glory Road Baxter, MN Rev. 9/2017 Copyright September 1, 2017, All rights reserved. All rights for this textbook are reserved by JM Consultants. This material may not be reproduced in any manner for any purpose without the written permission of JM Consultants. Copyright is not claimed on any material from official U.S. government sources.

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5 Table of Contents Chapter 1 Basic Reporting Principles 1-1 Chapter 2 Contribution Reporting on Form Chapter 3 Distribution Reporting on Form 1099-R 3-1 Chapter 4 Withholding Notices and Systematic Distributions 4-1 Chapter 5 Required Minimum Distributions (age 70 1 /2 or Older) 5-1 Chapter 6 Year of Death Procedures and Reporting 6-1 Chapter 7 Beneficiary Required Minimum Distributions 7-1 Chapter 8 Creating a Compliance Friendly Filing System 8-1 Chapter 9 Amendments 9-1 Chapter 10 Self-Directed IRAs 10-1 Chapter 11 IRA Audits 11-1 Chapter 12 Excess Contributions 12-1 Chapter 13 Recharacterizations 13-1 Appendix A Life Expectancy Tables A-1

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7 CHAPTER 1: Basic Reporting Principles Basic Reporting Principles Financial organizations offering IRAs have several annual reporting responsibilities. Some reports must be sent to both the IRS and IRA Holders or Beneficiaries, and some are sent only to IRA Holders and Beneficiaries. However, with the exception of Form 1099-R, which has a tiered penalty schedule for failures to report to the IRS based on how late the report is, the penalties for reporting failures are usually the same whether a financial organization has failed to report to the IRS or to the IRA Holder/Beneficiary. The following table summarizes the types of reports that are due each year and when they are due to the IRS and IRA Holders/Beneficiaries, the penalties for reporting failures, and exceptions to the reporting requirement Rev. 9/

8 Basic Reporting Principles 1 If a due date falls on a weekend or legal holiday, the deadline will be the closest following business day. 2 Box 11 should be checked if a participant must take an RMD for the year after the reporting year. This box should be checked if a person attains age 70 1 /2 in the year after the reporting year even if he or she does not need to take a distribution until the following year, and it should be marked each year after a person attains age 70 1 /2. Also, if Form 5498 is used for reporting RMDs under Alternative One, the date the RMD must be taken by must be reported in Box 12a, and the amount of the RMD must be reported in Box 12b (amount may be calculated as if the sole beneficiary of the IRA were a spouse beneficiary not more than 10 years younger than the IRA Holder). If Form 5498 is not used for reporting RMDs under Alternative One, the due date and amount of RMD still must be reported in a separate statement. 3 If the 5498 is used as an annual account statement when reporting to IRA Holders and beneficiaries, the IRS has stated that if the IRA Holder has received a FMV statement by January 31, and no contributions are made for the year, no Form 5498 needs to be provided to the IRA Holder to report zero contributions. It still must be provided to the IRS under these circumstances, however. NOTE: Starting in 2015 a new Safe Harbor was passed by the legislature allowing reporting corrections to NOT be required by the IRA Custodian/Trustee if the dollar limit is below a certain level as long as the report/statement was filed/furnished timely. The error must be no more than $100, AND The error for tax withholding is no more than $25. Before adopting this change, JM Consultants recommends the IRA Custodian/Trustee discuss this with their internal and external auditors as well as their IRA Holders. In addition, if an IRA Holder requests a correction, the IRA Custodian/Trustee MUST provide it. Rev. 9/

9 Basic Reporting Principles Fair Market Value (FMV) Statement The FMV statement reports the value of an IRA as of December 31 of the year for which the reporting is done and it is sent to the IRA Holder and/or Beneficiary. The IRS prefers the reported FMV reflect accrued earnings as of the reporting date even if the earnings have not yet been posted. If this is not feasible, reporting only posted earnings as of December 31 may be acceptable if this valuation method is applied consistently for all accounts. Fair Market Value is also reported on Form 5498, and the IRS does allow financial organizations to use Form 5498 to satisfy the FMV statement requirement, however, the FMV statement is then due to IRA Holders and Beneficiaries by January 31 rather than May 31 following the year for which the reporting is being done. Although Form 5498 may be used to satisfy the FMV statement requirement, it is not necessary to use Form Any written format may be used to satisfy the FMV statement requirement to IRA Holders/Beneficiaries. However, if no Form 5498 or Annual Account Statement is sent to the IRA Holder/Beneficiaries because no contributions were made for the reporting year, the FMV statement must include a notation indicating what information is being reported to the IRS on Form Note: See Chapter 10, Fair Market Value Issues. Annual Account Statement (Form 5498 and Substitute Form 5498) The Annual Account Statement is a report that is provided to IRA Holders and Beneficiaries that generally reports the same information that is captured on Form 5498, which is filed with the IRS. In other words, the Annual Account Statement reports all IRA contribution information, the IRA FMV (also reported on the FMV statement, a separate reporting requirement) and other information and instructions to the IRA Holder/Beneficiary. There is often confusion surrounding the Annual Account Statement requirement and Form 5498 reporting requirement, because the Form 5498 is usually used to satisfy the Annual Account Statement reporting requirement. Consequently, some IRA administrators mistakenly believe that IRA Holders/Beneficiaries must receive a Form However, it is possible to satisfy the Annual Account Statement requirement without a Form 5498, as long a statement that This information is being furnished to the IRS is printed on the statement and the following information is included in the report sent to the IRA Holder/Beneficiary: Regular Traditional and Roth IRA contributions made in or for the reporting year Rollover contributions made in the reporting calendar year Roth conversion made in the reporting calendar year Recharacterized contributions made in the reporting calendar year Type of IRA being reported SEP Contributions (if applicable) SIMPLE Contributions (if applicable) Name and address of financial organization FMV as of the end of the reporting calendar year IRA Holder/Beneficiary instructions similar to those found on Form 5498 Other information as directed by the IRS, which continues to increase Rev. 9/

10 Basic Reporting Principles RMD Notice Since Form 5498 must be produced for the IRS, it may also be used to fulfill the annual RMD Notice. See Chapter 5, Required Minimum Distributions, for information on RMD Notice requirements. Form 1099-R See Chapter 3, Distribution Reporting, for information on Form 1099-R. Form 5498 See Chapter 2, Contribution Reporting, for information on Form Filing Formats Currently there are two filing formats available: electronic through the Filing Information Returns Electronically System (FIRE System), and paper. Filers who are reporting 250 or more returns of the same type are required to file electronically, but the IRS allows financial organizations filing fewer than 250 returns of the same kind to file paper forms. Electronic Filing IRS Publication 1220, Specifications for Electronic Filing Forms 1097, 1098, 1099, 3921, 3922, 5498, 8935, and W-2G Electronically, should be read completely each year, as advised by the IRS. There are usually small changes in procedures that must be followed. This IRS publication is usually issued in late summer or early fall of the year that it applies to. The 2011 edition included an IRS warning of increased penalties for non-compliance. The 2012 version of Publication 1220 included this important information for electronic filers. The IRS internet connections for filing information returns electronically is and The Filing Information Returns Electronically (FIRE) system and the test system will be down from 6 p.m. ET December 14, 2012, through January 02, 2013 for yearly updates. In addition, the FIRE system may be down every Wednesday from 2:00 a.m. to 5:00 a.m. ET for programming updates. The FIRE system will not be available for submissions during these times. Form 4419, Application for Filing Information Returns Electronically (FIRE), is subject to review before the approval to transmit electronically is granted. IRS may require additional documentation. If a determination is made concerning the validity of the documents transmitted electronically, IRS has the authority to revoke the Transmitter Control Code (TCC) and terminate the release of the files. The FIRE system does not provide fill-in forms for filing information returns. Rev. 9/

11 Basic Reporting Principles The 2013 edition, published in October 2013, included the following information important to IRAs: Beginning Tax Year 2013 and subsequent, the guidance provided in Publication 1220 will cease to be issued as a Revenue Procedure. This publication will be maintained as a continuous living document incorporating record layout, and other changes, revisions, and deletions. A continuous living document means this document will incorporate changes as they take effect making this document current throughout the filing season. Updates can be found at on the Filing Information Returns Electronically website. AND from a list of nine items (only those pertaining to IRAs): 3. FIRE System is available from January 21, 2014, through December 12, FIRE Test System is available from November 12, 2013, through February 28, Combined Federal/State Filing program additional participating states Michigan (code 26) Vermont (code 50) 9. Form 1099-R, Distributions from Pensions, Annuities, Retirement or Profit- Sharing Plans, IRAs, Insurance Contracts, etc. Code D, Record for Annuity payments from nonqualified annuity payments and Distributions from life insurance contracts that may be subject to tax under section 1411, has been added to the Payee B Record, Field Positions , Distribution Code. Valid with codes 1,2,3,4 or 7. The 2014 edition of IRS Publication 1220, Specifications for Electronic Filing of Forms 1097, 1098, 1099, 3921, 3922, 5498, and W-2G, Tax Year 2014, was published in November 2014 and revised in January The only specific items pertaining to IRAs was a note concerning the reporting of the new/additional FMV reporting for the Forms 1099-R and The individuals in charge of getting the reports properly filed must read this information. The latest version includes this information concerning truncating TINs: Truncating taxpayer identifying numbers on payee statements. Final regulations have been issued that allow issuers to truncate payee identifying numbers on all payee statements covered by these instructions, except for Form W2-G. See Truncating payee identification number on payee statement, in part J. Part J is Recipient Names and Taxpayer Identification Numbers (TINs) and it should be reviewed frequently for any changes. NOTE: The IRS stopped accepting 3 1 /2 inch diskettes for returns filed after December 31, 2006, and stopped accepting tape cartridges for returns filed after December 1, Rev. 9/

12 Basic Reporting Principles Paper Forms Use of the IRS official paper forms will ensure that the proper format is used. These forms are obtained from the IRS or from a commercial printer. They must be scannable originals. Since few financial institutions use official IRS forms, substitute forms must conform to IRS specifications. IRS Publication 1179, General Rules and Specifications for Substitute Forms 1096, 1098, 1099, 5498, and Certain Other Information Returns, should be referred to, as advised by the IRS. IRS Publications and the IRS website should always be referred to for the latest developments when using substitute forms. Specifications can change even after the official publication. The most current version is dated August 4, The May 2014 version had one item concerning IRAs. It is for Form It is reprinted below Form The height of the following entry boxes have changed: TRUSTEE'S or ISSUER'S name, address, city or town, province or state, country, and ZIP or foreign postal code., TRUSTEE'S OR ISSUER'S federal identification no., PARTICIPANT'S social security number, Street address (including apt. no.), and City or town, province or state, country, and ZIP or foreign postal code. The August 2014 version also made mention of the new/additional reporting of FMVs on Form The most current version of IRS Publication 1179, June 2015, has the same information concerning the truncation of TINs. The 2015 version contains no changes pertaining to IRAs. The 2016 version of Publication 1179 contained few changes related to IRAs. However information about Forms 5498-ESA and 5498-SA, is noted below. Online fillable forms. Due to the very low volume of paper Forms 1099-CAP, 1099-LTC, 1099-SA, 3922, ESA, and 5498-SA received and processed by the IRS each year, these forms have been converted to online fillable formats. We are removing these forms (Copy A) from the Exhibits in Part 6. We have added a new section in Part 2 titled Online fillable forms specifically regarding these and the 2 other new online fillable forms, Forms 1099-QA and 5498-QA. The instructions for substitute Form 1042-S, also an online fillable form, are found in Part 5. Also changes for Form 1099-R is noted here: FATCA filing requirement check box. A new check box was added to Form 1099-R to identify an FFI or a U.S. payer filing this form to satisfy its chapter 4 reporting requirement. AND Rev. 9/

13 Basic Reporting Principles New early distribution exceptions. Public Laws and added Federal law enforcement officers, Federal customs and border protection officers, Federal firefighters, air traffic controllers, nuclear materials couriers, members of the United States Capitol Police or Supreme Court Police, and diplomatic security special agents of the Department of State to the definition of qualified public safety employees under 72(t)(10(B)) eligible for an early distribution exception for distributions made after separation from service in or after the year the employee has reached age 50. These changes are effective for distributions made after December 31, The 2017 version of Publication 1179 had the following IRA-related changes: Form 1042-S. Beginning in 2017, withholding agents will be required to assign a unique identifying number to each Form 1042-S filed. See the 2017 Instructions for Form 1042-S for more information. Beginning in 2017, withholding agents filing an amended form must indicate the amendment number. See the 2017 Instructions for Form 1042-S for more information. The Pro-Rata Reporting box was moved from the top of the form (below the title) down to new box 15. Form 1042-S. Beginning in 2017, withholding agents will be required to assign a unique identifying number to each Form 1042-S filed. See the 2017 Instructions for Form 1042-S for more information. Beginning in 2017, withholding agents filing an amended form must indicate the amendment number. See the 2017 Instructions for Form 1042-S for more information. The Pro-Rata Reporting box was moved from the top of the form (below the title) down to new box 15. Form Report late rollover contributions certified by the participant in boxes 13a and 13b. Report the self-certification code in box 13c. IRS Publication 1179 should always be reviewed annually when using substitute forms. JM Consultants knows that IRA Custodians/Trustees are being penalized for incorrect forms. NOTE: 529A ABLE ACCOUNTS (Achieving a Better Life Experience) ABEL Accounts are NOT fully discussed in this Manual. They have similar reporting requirements. IRC 529A ABLE accounts were created by the Tax Increase Prevention of 2014 and are designed to accumulate financial resources to assist individuals with special needs. Contributions are NOT deductible, have tax free growth and have special distribution purposes. Distributions for qualified medical expenses are tax-free. Rev. 9/

14 Basic Reporting Principles ABLE Accounts can be established through an individual s state, state agency or instrumentality. They are NOT established like IRAs, HSAs or CESAs. However, rules and procedures are similar to those for Coverdell Education Savings Accounts (CESAs). Annual contributions can be as much as $14,000 for an individual who was blind or disabled by age 26. A rollover for an ABLE Account is an amount from another ABLE account for the same individual, OR from an ABLE Account of a family member of the individual. Like IRAs, there can be only one such rollover per year per person. The 60-Day rollover rule also applies to these accounts. However, remember, ABLE Accounts ARE NOT IRAs, HSAs or CESAs! Rev. 9/

15 Basic Reporting Principles Corrections Some corrections require one form to correct and others require two. The table below summarizes which types of corrections can be completed with one form and which require two forms. * For examples of one and two form corrections see Chapter 2, Contribution Reporting on Form 5498 and Chapter 3, Distribution Reporting on Form 1099-R. Rev. 9/

16 Basic Reporting Principles Record Retention for IRA Administrators There are several factors that should be considered when determining how long to retain IRA records including the type of IRA record, the period over which the record might be subject to an audit (by either IRS or banking auditors), and if the records might be the subject of a lawsuit, and a financial organization s storage constraints. The most conservative approach, of course, is to keep all IRA records (plan documents, reporting, correspondence, etc.) forever. If space is a consideration, some financial organizations have started to retain electronic copies of these documents rather than hard copies. If a financial institution electronically archives the actual files, reports and statements we recommend that you have a detailed procedure written for this. It should include timing of the scanning/archiving and what, if any, the destruction period is, and how and by whom it is approved. Before any actual documents are destroyed, a detailed written procedure should become part of your Policies and Procedures. A control sheet should be maintained with all accounts listed. It should also include any older files that are scanned and/or shredded. The date scanned should be noted as well as who scanned it. And, maybe most important, someone should maintain the schedule for shredding, making sure the file is scanned before it is shredded. While we recommend a very conservative time frame for shredding, your financial institution should follow its own legal counsel. In so doing however, remain cognizant that it appears the IRS can require an IRA/HSA/CESA Custodian/Trustee to prove any and all transactions, as far back as they care to go. While three years after filing/amending is the norm, it would be unusual, but it is not impossible, for the IRS to request farther back. Since the IRS has no written policy on electronic documentation for IRA/HSA/CESA Custodians/Trustees, and can very easily audit three tax years back from the date of filing or amending/correcting, four years is an absolute minimum to keep all original documents. Five years is better. Because of this, many financial institutions have a ten year policy for document destruction after they are archived electronically. To give you an indication of what the IRS is thinking, however, IRS Publication 552, Recordkeeping for Individuals (Rev. January 2011, the latest published version), instructs the taxpayer, the IRA/HSA/CESA Owner, nothing is mentioned for the IRA Custodian/Trustee, to keep all IRA records until the IRA is closed and all distributions have been made. This would seemingly include until the inherited IRA is fully distributed to the beneficiary. Although not specifically mentioned, one would also expect the IRS to follow these same guidelines for HSAs and CESAs and quite possibly for the IRA/HSA/CESA Custodian/Trustee. NOTE: Recently, the IRS has removed this publication from their web site. Other IRS publications and website locations also do NOT give any further clarification So the operative words in this area should be BE CAREFUL before shredding anything! Other IRS Publications and website locations also do NOT give any further clarification. Then, too, there can be state legal issues. Many states have a period of time after an account is closed that remains open for litigation purposes. Again, your financial institution should follow its own legal counsel on this matter. We like to compare compliance documentation to insurance. Few of us like paying insurance premiums, but when we need insurance, we re sure glad we have it. So look at documentation that way. Do you want minimum documentation insurance (nothing saved), good documentation insurance (minimum 5 years saved), or Rev. 9/

17 Basic Reporting Principles the best insurance documentation and our recommendation of ten years or longer. Forever is still best! Recently the IRS won a court case concerning what retirement account records must be retained. While the case involved employer records for a Qualified Retirement Plan, it is a good assumption that this same test would apply to ANY IRA case. The IRS referred to their definition in the EP Team Audit (EPTA) Program - Taxpayer Documentation Guide - How Long Should Records be Retained? That definition/description is repeated here: Retirement plans, whether they are defined benefit or defined contribution plans, are designed to be long-term. Participants build up benefits or accounts over time. As a result, the records of transactions for the plans may cover many, many years. The IRS and Income Tax Regulations require that records be retained so long as their contents may become material in the administration of any internal revenue law. As a result, records for retirement plans should be kept until all benefits have been paid, the trust has been dissolved and sufficient time has passed such that the plan will not be the subject of an audit. NOTE: Of course when retaining and/or archiving records the IRA Custodian/Trustee should always review any process with their legal, accounting and compliance counsel. IRA Holders should also abide by this, but should also review their own personal policy with their legal, tax and accounting counsel. Regarding The Scanning of IRA Documents Some financial organizations are moving to paperless environments and storing IRA documents electronically rather than in paper files. The primary reasons for this are ease of access (especially when dealing with multiple branches) and a lack of physical storage space. Of course, there are some risks involved with a paperless approach, including the possibility of losing these critical legal documents in the event of a computer disaster if proper care is not taken to backup files off-site on a regular basis, or in a less serious scenario, the possibility of losing temporary access to this information due to a local system going down. Because of the costs, risks, and technical issues involved with embarking on such a project, it is important to consult with competent legal, technical, and training experts before taking the large step of moving toward a paperless environment. Once a decision has been made to move to paperless, the next decision will be which documents will be stored electronically and which will be stored on paper. Some documents that are commonly scanned for storage include: Signed Plan Documents Distribution and Contribution Forms Beneficiary Election Forms Other Election Forms Correspondence Correction Forms Reporting Forms Rev. 9/

18 Basic Reporting Principles Other considerations include procedures for scanning and routing documents, how long paper documents will be retained, and training personnel for this major change. Again, the IRS has given little guidance to IRA Custodians/Trustees; except that they must be easily accessible. One important issue to consider, however, is the availability of reviewing scanned documents. This is especially important for any outside auditor. Limited access will not make an auditor s job easier and the IRS could absolutely demand access. In addition, ease of access is also an important issue for your employees and internal auditors. While the scanning and electronic archiving has become quite common, it may be hard to believe, but auditing electronic documents is usually a slower task than checking actual paper files. Depending on the system used, the auditing of electronic files can be very slow. While it may seem faster if checking only a file or two internally, when needing to find multiple files and multiple reports, it becomes a much slower task. SAVING QRP and IRA RECORDS Recently the IRS won a court case concerning what retirement account records must be retained. While the case involved employer records for a Qualified Retirement Plan, it is a good assumption that this same test would apply to ANY IRA case. The IRS referred to their definition in the EP Team Audit (EPTA) Program - Taxpayer Documentation Guide - How Long Should Records be Retained? That definition/description is repeated here: Retirement plans, whether they are defined benefit or defined contribution plans, are designed to be long-term. Participants build up benefits or accounts over time. As a result, the records of transactions for the plans may cover many, many years. The IRS and Income Tax Regulations require that records be retained so long as their contents may become material in the administration of any internal revenue law. As a result, records for retirement plans should be kept until all benefits have been paid, the trust has been dissolved and sufficient time has passed such that the plan will not be the subject of an audit. NOTE: Of course when retaining and/or archiving records the IRA Custodian/Trustee should always review any process with their legal, accounting and compliance counsel. IRA Owners should also abide by this, but should also review their own personal policy with their legal, tax and accounting counsel. Also note that the IRS made no distinction between electronic or paper documents. JM Consultants Recommendation: Although on the conservative side of this issue, JM Consultants still recommends maintaining access to the original, paper IRA Documents, especially the IRA Plan Agreement, Disclosure Statement, Financial Disclosure, Beneficiary Documents and All Amendments. NOTE: Voluntary Truncation IRS Pilot Program Extended! Rev. 9/

19 Basic Reporting Principles On February 11, 2013, Internal Revenue Bulletin: issued a Proposed Regulation for IRS Truncated Identification Numbers. For IRAs, it follows the previous procedures for truncating. and, as with many proposed regulations, this proposed regulation can be relied on until such time the IRS states differently. So, for 2013 and future years, truncating is allowed but NOT yet mandatory. The 2015 instructions for Form 5498 include the following: Form 5498, IRA Contribution Information Per the IRS Instructions, Truncating recipient's identification number on payee statements. Pursuant to Treasury Regulations section , all filers of Form 1099-R may truncate a recipient s identification number (social security number (SSN), individual taxpayer identification number (ITIN), adoption taxpayer identification number (ATIN), or employer identification number (EIN)) on payee statements. Truncation is not allowed on any documents the filer files with the IRS. See part J in the 2015 General Instructions for Certain Information Returns, for more information. NOTE: Since 2013, this procedure remains OPTIONAL. Truncating is NOT REQUIRED! For a review of the required procedures, here is a history of this program. On November 19, 2009, the IRS issued Notice , which provided for a voluntary pilot program that permits an IRA/HSA/CESA Custodian/Trustee to truncate an individual payee's nine-digit identifying number on paper Forms 1099-R (including substitute and composite substitute statements) issued for calendar years 2009 and The Notice did not apply to filings with the IRS, electronically furnished payee statements, or payee statements not in the Form 1098, 1099, or 5498 series. From the IRS Notice the requirements to participate in this program were: The identifying number must be an Social Security Number, Taxpayer Identification Number, or adoption TIN; The identifying number is truncated by replacing the first five digits with asterisks or Xs (for instance, would be truncated as "***-**-6789" or "XXX-XX-6789"); and The truncated identifying number appears on a paper payee statement (including substitute and composite substitute statements) in the Form 1098, 1099, or 5498 series for calendar year 2009 or If those requirements were satisfied, then the IRA/HSA/CESA Custodian/Trustee was deemed to have complied with any requirement in Treasury and IRS guidance, whether in regulation, form, or form instructions, to include a payee's identifying number on a payee statement. The IRS also solicited comments to the Notice by May 1, 2010, specifically concerning: (1) whether truncations should be required, rather than permitted, (2) whether other Form series should be included, (3) whether electronically furnished statements should be included, (4) whether complete numbers should be included upon payee request, and (5) whether truncation creates difficulties for filers and/or payees. Rev. 9/

20 Basic Reporting Principles On April 14, 2011, the IRS issued Notice to announce an extension of the voluntary pilot program. In order to allow for more time to evaluate the pilot program, the IRS has extended the program as to paper Forms 1098, 1099 and 5498 series furnished for calendar years 2011 and As in the prior announcement, it does not apply to forms filed with the IRS, electronically furnished payee statements, and payee statements not in the Form 1098, 1099, or 5498 series. To participate in this extended program, the same requirements as noted above must be met. The IRS also noted that a filer is authorized to truncate an identifying number on the forms notwithstanding the 2011 Instructions for those forms that say the original pilot program expired. The public was again invited to submit comments by July 29, 2011 concerning the Notice. The IRS is particularly interested in the following: (i) comments from filers who participated in the original pilot program for either calendar year 2009 or 2010; (ii) issues payors and payees have encountered; and (iii) comments on whether payors should be allowed to truncate a payee's EIN, whether truncation should be permitted on additional types of payee statements, and whether payors should be allowed to truncate a payee's identifying number on electronically furnished payee statements. REMEMBER Truncation remains OPTIONAL! Rev. 1/

21 Contribution Reporting on Form 5498 CHAPTER 2: Contribution Reporting on Form 5498 Before The Start of Each Reporting Year Properly reporting IRA contributions starts with a thorough understanding of what the contribution reporting requirements will be for the year. Consequently, it is highly recommended that before the start of each reporting year, all personnel who are responsible for entering IRA reporting information review the contribution reporting requirements and how they are to be entered on a financial organization s internal reporting system so that they are properly reported on Form It may also be a good idea for client service representatives to keep a log of the types of IRA contributions they report throughout the year, to help facilitate spot-checking of the Forms It is particularly important to note rollover contributions, conversions, recharacterizations, special catch-ups, SEP, and SIMPLE contributions, because these contributions are the most likely to be reported incorrectly. In addition to maintaining a reporting log, it would also be a good idea to create a contribution reporting checklist for client service representatives. The procedures for receiving contributions will vary from financial organization to financial organization. Form 5498 is the IRS form used for reporting IRA contributions and it is due to both the IRA Holder and IRA Beneficiary of the deceased IRA Holder, and to the IRS by May 31, or the next regular business day, of the following year. The due dates are as follows: Due Date Calendar IRA Holder/ Due Date to Year Beneficiary the IRS 2012 May 31, 2013 May 31, June 2, 2014 June 2, June 1, 2015 June 1, May 31, 2016 May 31, May 31, 2017 May 31, May 31, 2018 May 31, 2018 To properly report IRA contributions on Form 5498, one must first become familiar with the form itself. After familiarizing ourselves with the format of Form 5498, we can then address compliance concerns for each of the contribution types, as well as other information that is reported on this form, such as fair market values and required minimum distribution information. Form 5498 is a three-part form. Copy A goes to the IRS, and appears in red in the official form. A black and white facsimile of the 2016 and 2017 Copy A of Form 5498 follows. Rev. 9/

22 Contribution Reporting on Form Rev. 9/

23 Contribution Reporting on Form 5498 Note: The Void box should be marked on a Form 5498 if a completed or partially completed form is incorrect and you want to void it before sending it to the IRS. Any forms with an x in the Void Box will be completely disregarded by the IRS, and consequently, there is no need to mark the Corrected box if a form is retyped to replace the voided form. Do not use the Void box to correct forms after they are sent to the IRS. Copy B, the IRA Holder s/beneficiary s copy, looks much like Copy A except it is missing the void checkbox at the top of the form, and it has explanations of what the various boxes on the form mean printed on the back to better help the IRA Holder/Beneficiary understand what is being reported. Copy C, the Custodian/Trustee or Issuer s copy, looks exactly like Copy A, except for the color (black and white, not red), and it has information related to reporting deadlines and instructions that are specific to the Custodian/Trustee or Issuer. The purpose of the boxes that contain identifying information about the IRA Custodian/Trustee and Participant (IRA Account Holder/Beneficiary) are obvious for the most part. Please note, however, that according to the general instructions for filing Form 5498, a unique identifier is required for the Account Number field if you have multiple accounts for a recipient or if you are filing more than one information return of the same type. This requirement ensures that corrections are properly processed. It is also important to note that according to the instructions, the account number must not appear anywhere else on the form, which rules out using the Social Security Number. Also, since an IRA can hold multiple CDs as investments, using CD numbers would require multiple Form 5498 filings for the same account in many circumstances, which would not satisfy the reporting requirements of filing one Form 5498 per IRA. Some financial organizations use a basic account number for each customer and apply an appended digit for each new account opened by the customer. For example, a financial organization may create a unique account number for a customer, such as However, the customer s Traditional IRA would be listed as Acct. No , and his Roth IRA might be listed as Acct. No Also, please note if you are using window envelopes for reduced rate mail, be sure the account number does not show through the window. For Example: Account Number Sample: First two numbers = Branch Number Second set of numbers = Part of SSN/TIN Third set of numbers = IRA Type 01 = Traditional IRA 02 = Roth IRA 03 = SEP IRA 04 = SIMPLE IRA 05 = Inherited Traditional IRA 06 = Conduit Traditional IRA Rev. 9/

24 Contribution Reporting on Form = HSA 08 = CESA The left hand portion of the form is self-explanatory with the IRA Custodian/Trustee and the IRA Account Holder/Beneficiary required information. Note: A 5498 must be generated for each plan agreement. What's New for 2014? Form 5498 Box 15a. FMV of certain specified assets. Use box 15a to report the fair market value (FMV) of investments in the IRA that are specified by category code(s) in box 15b. Box 15b. Code(s). Use codes A through H for reporting the types(s) of investments held in an IRA for which the FMV is required to be reported in box 15a. See Reporting FMV of certain specified assets, and the instructions for box 15b, in the Specific Instructions for Form 5498, later. Using new Code K on Form 1099-R, and boxes 15a and 15b on Form 5498, for reporting hard-to-value IRA assets is optional for Although these boxes have been added, the IRS has stated that the procedure is OPTIONAL for The IRS instructions for the NEW codes for Box 15b are the following: Enter the code for the type(s) of investments held in the IRA for which the FMV is reported in Box 15a. A maximum of two codes can be entered in Box 15b. If more than two codes apply, enter code H. A Stock or other ownership interest in a corporation that is not readily tradable on an established securities market. B Short or long-term debt obligation that is not traded on an established securities market. C Ownership interest in a limited liability company or similar entity (unless the interest is traded on an established securities market). D Real estate. E Ownership interest in a partnership, trust, or similar entity (unless the interest is traded on an established securities market). F Option contract or similar product that is not offered for trade on an established option exchange. G Other asset that does not have a readily available FMV. H More than two types of assets (listed in A through G) are held in this IRA. Rev. 9/

25 Contribution Reporting on Form 5498 What s New for 2015? There were no IRA related changes in the 2015 IRS Instructions. Account Valuations (FMV) When IRA Asset Values Are Not Readily Determined An accurate valuation (FMV) of a Traditional, SEP, SIMPLE and Inherited IRA is required in order to calculate the correct RMD amount for a year. FMV is also needed for certain other IRA transactions. Obtaining the FMV is an annual requirement for the IRA Custodian/Trustee. In some cases, IRAs contain assets which are difficult to value without specialized expertise, such as real estate investments, limited liability partnerships, or annuities with a large death benefit. It is the custodian s or trustee s responsibilities to obtain an accurate valuation of these investments each year to provide an accurate fair market value in Box 5 of Form It is also the responsibility of the trustee or custodian to provide an accurate fair market value each year. This will generally require the services of an expert in the specific type of valuation that must be conducted (e.g., real estate, business, or actuarial, in the case of an annuity with a death benefit.) This responsibility can not be passed on to the IRA Holder or Beneficiary. While the IRA Holder can be asked to obtain the FMV, the IRA Custodian/Trustee is required to obtain the FMV regardless of circumstances. If the FMV is obtained late, the FMV Statement and Form 5498 MUST BE AMENDED! There are NO EXCEP- TIONS! NOTE: While IRA Custodians/Trustees can ask the IRA Holder to obtain the FMVs, the IRA Holder can NOT make the evaluation themselves. A verifiable source and/or independent third party must be used. Again, if the FMVs are not obtained by the time your FMV Statements are sent to the IRA Holders, the IRA Custodian/Trustee must amend all FMV Statements and 5498s when the complying FMV is obtained. It is also important to note that any cost in obtaining the FMV is a valid expense of the IRA and can be paid from the IRA. NOTE: Reporting an IRA with both Regularly Valued and Hard-to-Value Assets Although the 2015 IRS Instructions do not specifically note this, the language used appears to indicate that the total FMV of all IRA assets will still be reported in the usual Box 5 and the FMV for just those certain, hard-tovalue assets will be reported in Box 15a. NOTE: Hard to appraise assets can be appraised by a professional in the category of asset, using similar transactions for determination of the FMV. REMEMBER it is the responsibility of the IRA Custodian/Trustee to obtain the annual FMV! Rev. 9/

26 Contribution Reporting on Form 5498 CAUTION! JM Consultants recommends being very careful in using the not readily available reason for NOT obtaining FMVs. We believe the IRS will be auditing this new reporting requirement and not obtaining FMVs when they are available could result in substantial IRS penalties to the IRA Custodian/Trustee. It remains the responsibility of the IRA Custodian/Trustee to obtain FMVs. What s New for 2016? There were no IRA related changes in the 2016 IRS Instructions for Form What s New for 2017? Reporting late rollover contributions to an IRA. IRS Form 5498, IRA Contribution Information, has once again been changed. Actually not changed in format, but added to in use. From the IRS Instructions: Reporting late rollover contributions to an IRA. Report late rollover contributions certified by the participant in boxes 13a and 13b on Form Report the self-certification code in box 13c. These boxes have been around for a while, but now have an additional use, REPORTING THE NEW SELF-CERTIFICATION LATE ROLLOVER! Here s a review of those boxes with the additional information. Box 13a. Postponed Contribution, reports the amount of any postponed contribution made in 2017 for a prior year. If contributions were made for more than 1 prior year, each prior year's postponed contribution must be reported on a separate form. Report the amount of a late rollover contribution made during 2017 and certified by the participant. Newly added, if the participant also has a postponed contribution, use a separate Form 5498 to report a late rollover. Box 13b. Year reports the year for which the postponed contribution in box 13a was made. Leave this box blank for late rollover contributions. Box 13c. Code reports the reason the participant made the postponed contribution. For participants' service in a combat zone, hazardous duty area, or direct support area, enter the appropriate executive order or public law as defined under Special reporting for U.S. Armed Forces in designated combat zones, earlier. For participants who are affected taxpayers, as described in an IRS News Release relating to a federally designated disaster area, enter FD. For participants who have certified (The NEW Self-certification late rollover) that the rollover contribution is late because of an error on the part of a financial institution, death, disability, hospitalization, incarceration, restrictions imposed by a foreign country, postal error, or other circumstance listed in Section 3.02(2) of Rev. Proc or other event beyond the reasonable control of the participant, enter SC. Rev. 9/

27 Contribution Reporting on Form 5498 CAUTION: One can only believe that while it now appears easier to make a late rollover with the Self-certification Method, the IRS IS WATCHING! With the new reporting, the IRS will be able to trace this new method. And, remember, the self-certification is NOT a waiver. IRA Custodians/Trustees be aware, this is a NEW REPORTING REQUIREMENT! And just so you don t figure these changes are with the new instructions, so there won t be anything else to change, the IRS reminds everyone that additional changes can be made, as they have been in the past. From the IRS Instructions: Future Developments For the latest information about developments related to Forms 1099-R and 5498 and their instructions, such as legislation enacted after they were published, go to or Be assured JM Consultants will keep you informed of any further changes. See Exhibit B for the full IRS Revenue procedure concerning this waiver. Rev. 9/

28 Contribution Reporting on Form 5498 Explanations for Numbered and Blank Box on 2016 Form Rev. 9/

29 Contribution Reporting on Form Rev. 9/

30 Contribution Reporting on Form 5498 Note 1: Boxes 12a and 12b can be used to satisfy the RMD Notification rule. However, the Form 5498 must then be received by the IRA Holder by January 31. Note 2: If an IRA is funded both with employer SEP contributions, as well as with the IRA Holder s regular, annual Traditional IRA contributions, the SEP contributions should be reported in box 8 and the Traditional IRA contributions should be reported in box 1. SEP contributions made in 2014 for 2013 are reported on a 2014 Form 5498, but regular, Traditional IRA contributions made for 2014 during the carryback period between January 1 and April 15, 2015, should be reported on the 2014 Form When a financial organization is not certain whether an IRA is a Traditional or a SEP IRA, the instructions indicate that the IRA box should be marked in box 7, rather than the SEP IRA box. Rev. 9/

31 Contribution Reporting on Form 5498 Explanations for Numbered and Blank Box on 2017 Form Rev. 9/

32 Contribution Reporting on Form Rev. 9/

33 Contribution Reporting on Form 5498 Note 1: Boxes 12a and 12b can be used to satisfy the RMD Notification rule. However, the Form 5498 must then be received by the IRA Holder by January 31. Note 2: If an IRA is funded both with employer SEP contributions, as well as with the IRA Holder s regular, annual Traditional IRA contributions, the SEP contributions should be reported in box 8 and the Traditional IRA contributions should be reported in box 1. SEP contributions made in 2017 for 2016 are reported on a 2017 Form SEP contributions made in 2018 for 2017 are reported on a 2018 Form Regular, Traditional IRA contributions made for 2014 during the carryback period between January 1, 2017 and April 17, 2018, should be reported on the 2017 Form Regular, Traditional IRA contributions made for 2017 during the carryback period between January 1, 2018 and April 17, 2018, should be reported on the 2017 Form For 2016, the deadline shifts to April 18 because of Emancipation Day celebrated in the District of Columbia. When a financial organization is not certain whether an IRA is a Traditional IRA or a SEP IRA, the IRS instructions indicate that the IRA box should be marked in box 7, rather than the SEP IRA box. Rev. 9/

34 Contribution Reporting on Form 5498 IMPORTANT! FORM 5498, Boxes 11, 12a and 12b ARE ONLY TO BE USED FOR IRA HOLDER RMDs. THEY ARE NOT TO BE USED FOR AN INHERITED IRA. MISREPORTING INHERITED IRAs IN THIS MAN- NER COULD CAUSE PROBLEMS FOR BOTH THE IRA BENEFICIARIES AND THE IRA CUSTO- DIAN/TRUSTEE. In addition, the RMD information in Box 11 is MANDATORY and MUST BE REPORTED when it applies to the living IRA Holder. And again, NOT for the Inherited IRA Holders! Boxes 12a and 12b are still OPTIONAL. Summary of IRA Transactions requiring a Form 5498 be produced Traditional IRA Contribution Roth IRA Contribution Traditional IRA-to-Traditional IRA Rollover received Roth IRA-to-Roth IRA Rollover received QRP-to-Traditional IRA Direct Rollover received QRP-to-Traditional IRA Indirect Rollover received QRP-to-Roth IRA Direct Rollover received QRP-to-Roth IRA Indirect Rollover received Roth IRA Conversion received Recharacterized Contribution received SEP IRA Contribution received SIMPLE IRA Contribution received QRP-to-SIMPLE IRA Rollover Traditional IRA-to-SIMPLE IRA Rollover Postponed Traditional or Roth Contribution received Repayment Traditional or Roth IRA Contribution received Summary of IRA Transactions NOT requiring a Form 5498 be produced Traditional IRA-to-Traditional IRA Transfer received Roth IRA-to-Roth IRA Transfer received Internal change/maturing of Investment/CD Rev. 9/

35 Contribution Reporting on Form Instructions Form Rev. 9/

36 Contribution Reporting on Form Instructions Form Rev. 9/

37 Contribution Reporting on Form 5498 IMPORTANT LEGISLATIVE ACTION On December 18, 2015, President Obama signed into law H.R which combines the Protecting Americans from Tax Hikes (PATH) Act and the Consolidated Appropriations Act of As part of this bill, Qualified Charitable Distributions (QCDs) have not only been approved effective January 1, 2015, BUT IN ADDITION, have been made PERMANENT! Or as permanent as anything can be in Washington DC. No other changes to the QCD procedure have so far been announced. Rollovers to SIMPLE Retirement Accounts. Also part of this law is a change to the rollover rule. Beginning after December 18, 2015, an individual is able to roll over amounts from a Qualified Retirement Plan (QRP) or an IRA into a SIMPLE retirement account as follows: During the first 2 years of participation in a SIMPLE retirement account, you may roll over amounts from one SIMPLE retirement account into another SIMPLE retirement account; and After the first 2 years of participation in a SIMPLE retirement account, you may roll over amounts from a QRP or an IRA into the SIMPLE retirement account. This rule also now includes previously omitted 403b and 457b plans. The IRA Custodian/Trustee and the Plan Administrator will need to verify that the SIMPLE Plan has been active for at least two years. JM Consultants recommends getting/giving this verification in writing. The IRS provides this revised Rollover Chart: Rev. 9/

38 Contribution Reporting on Form 5498 NOTE: With likely smaller significance and use, Airline bankruptcy settlement payments eligible for rollover to IRAs will include settlements during the 180 days following enactment of the legislation, December 18, Rev. 9/

39 Contribution Reporting on Form 5498 Filing Returns with the IRS All returns sent to the IRS should be reviewed to help prevent the need for later corrections. If filing Form 5498 in a paper format, you must send the transmittal Form 1096 with the paper forms you are submitting. A separate Form 1096 is required for each type of form you are submitting (e.g., one Form 1096 would be required for all paper Form 1099-Rs that are submitted and one would be required for all Form 5498s that are submitted) For organizations that are using substitute reporting forms, they must conform to the specifications in IRS Publication The 2016 and 2017 Forms 1096, Annual Summary and Transmittal of U.S. Information Returns, follows. There are no important changes to either form. NOTE: Starting in 2015 a new Safe Harbor was passed by the legislature allowing reporting corrections to NOT be required by the IRA Custodian/Trustee if the dollar limit is below a certain level as long as the report/statement was filed/furnished timely. The error must be no more than $100, AND The error for tax withholding is no more than $25. CAUTION: Before adopting this change, JM Consultants recommends the IRA Custodian/Trustee discuss this with their internal and external auditors as well as their IRA Holders. In addition, if an IRA Holder requests a correction be filed, the IRA Custodian/Trustee MUST provide it. Rev. 9/

40 Contribution Reporting on Form Rev. 9/

41 Contribution Reporting on Form Rev. 9/

42 Contribution Reporting on Form Rev. 9/

43 Contribution Reporting on Form Rev. 9/

44 Contribution Reporting on Form 5498 Third Party Providers A transmitter, service bureau, paying agent, or disbursing agent may sign Form 1096 on behalf of any person required to file (the payer) if the conditions in 1 and 2 below are met. 1. The third party provider has the authority to sign the form under an agency agreement (oral, written, or implied) that is valid under state law and 2. The third party provider signs the form and adds the caption For: (Name of payer). Signing of the form by a third party provider on behalf of the payer does not relieve the payer of the liability for penalties for not filing a correct, complete, or timely Form 1096 and accompanying returns. Recordkeeping Financial organizations should keep copies of information returns filed with the IRS or have the ability to reconstruct the data for at least five years after filing them for IRS purposes; however, a financial organization may want or need to retain them for longer for bank auditors, customer service, or legal purposes. Shipping Information forms should be sent to the IRS in a flat (not folded) first class mailing. If you are sending many forms, you may send them in separate packages. If multiple packages are sent, write your name, and number each package separately, and place Form 1096 in package number one Electronic Reporting Currently the only methods available for filing returns are electronic or paper. Electronic filing is the preferred method for filing information returns with IRS, although paper filing is still allowed for those filing less than 250 information returns. For those filing 250 or more information returns, only electronic filing is allowed unless a financial organization applies for and receives a hardship waiver. Publication 1220 provides the procedures for reporting electronically and is updated annually. Publication 1220 should be reviewed frequently. The IRS has published multiple versions in a year. Financial organizations may file information forms electronically through the Filing Information Returns Electronically System (FIRE System); however, special software is required that can produce a file in the proper format according to Pub The FIRE System does not provide a fill-in form option. The FIRE System primarily operates 24 hours a day, 7 days a week, and may be accessed via the Internet at However, there are certain times of the year it is NOT available. Due dates File Form 5498 electronically through the FIRE System by June 1, 2015 for 2014, May 31, 2016 for 2015, May 31, 2017 for 2016 and May 31, 2018 for Rev. 9/

45 Contribution Reporting on Form 5498 Who Must File Electronically If you are required to file 250 or more information returns, you must file electronically. The 250-or-more requirement applies separately to each type of form. The electronic filing requirement does not apply if you apply for and receive a hardship waiver. Year of Death Reporting Requirements It is important for beneficiaries to be able to separately track the IRAs they hold as beneficiaries from the IRAs they hold as owners, because different taxation and distribution rules apply to each. Revenue Procedure provides two options for satisfying the year of death reporting requirements for the FMV and Form Generally, financial organizations must report the FMV statement for the decedent and each beneficiary on Form 5498 regardless of which reporting option it elects to use. An exception to this requirement exists if a beneficiary takes a total distribution of his or her beneficial portion of the inherited IRA by December 31 of the year of death. In this case, no FMV or Form 5498 must be generated for that beneficiary, however, an FMV statement and Form 5498 must still be generated in the name of the decedent in the year of death and for any other beneficiary who has not fully depleted his or her share of the IRA by December 31 of the year of death. Option One 1. Report the IRA s FMV as of the date of death for the deceased IRA Holder in box 5 of Form Report the FMV of each beneficiary s portion of the Inherited IRA as of 12/31 of the year of death in box 5 of Form Option Two 1. Report the IRA s FMV as 12/31 of the year of death in box 5 of Form 5498 for the deceased IRA Holder, which must be zero!. 2. Report the FMV, of each beneficiary s portion of the Inherited IRA as of 12/31 of the year of death in box 5 of Form If option two is used, a financial organization must also provide the deceased IRA Holder s executor or representative with a date of death valuation within 90 days of their executor s request for such information. If a financial organization is not notified of an IRA Holder s death until after the deadline for filing Form 5498 (May 31), it is not required to file a corrected Form 5498 nor furnish a corrected annual statement. Although it is recommended. However, it must still provide the date-of-death valuation in a timely manner to the executor or administrator representative upon request. If a financial organization is notified of an IRA Holder s death after they have sent out Form 5498, but before the deadline for sending it out, they must correct their reporting according to the option they have chosen for reporting in the year of death. Note: If a spouse beneficiary transfers the deceased spouse s IRA into his or her own IRA, any distributions taken will be coded based on the age of the spouse beneficiary (code 1 or 7 for a Traditional IRA and Q, T, or J for a Roth IRA), rather than as a death distribution (code 4, Q or T), as is the case if the assets are moved into an inherited IRA account. Please note that the actual transfer of a deceased IRA Holder s assets to an inherited subaccount is not a reportable event. Rev. 9/

46 Contribution Reporting on Form 5498 Example: IRA Holder dies November 6, 2016, age 75 The 2016 RMD was not taken Financial Institution is NOT informed of the death until March 10, 2017 The IRA Holder s December 31, 2016 FMV Statement is already sent The 2016 Form 5498 has not been sent out yet Solution: The financial institution MUST amend the IRA Holder s 2016 FMV Statement: It must be re-issued reporting the FMV as the date of death FMV or zero! If the zero option is used, the statement must also include notice to the deceased IRA Holder s representative that the Date of Death FMV is available upon request. If requested it must be provided within 90 days in any reasonable format. The financial institution must also determine who the beneficiaries are and prepare a December 31, 2016 FMV statement for each of them, using their names as beneficiary of the deceased and their SSNs and/or TINs. Remember the Decedent s Social Security Number CANNOT be used for any of the beneficiaries, whether spouse, trust or estate. The reported FMV is their share of the December 31, 2016 total balance. Form 5498s must have been prepared by May 31, 2017 for the deceased IRA Holder and all beneficiaries. Caution: If any IRA transactions occurred between the date of death and the notification of death, they must be accounted for by the financial institution because the IRS position is the IRA balance as of the date of death belongs to the beneficiaries, NOT the estate of the deceased. This means the beneficiaries in this example must be shown as owning the Inherited IRA at the end of the year. This may be a bit tricky to enter into your computer system. Manual corrections may be necessary, but it is required. The 50% penalty applies to the beneficiaries who were responsible for the RMD starting the date of death. They may request an abatement of the penalty when filing/amending their 2016 personal tax returns, showing the penalty. Since it will not be paid out sooner than 2017, reported on a 2017 Form 1099-R, it will be taxed in (Hint: If they have not satisfied the delinquent RMD there is little chance the IRS would abate any penalty.) NOTE: While the correcting distribution is taxed in 2017, when finally taken, the penalty is due on the 2016 tax return because the RMD was for So the Penalty is reported on and paid with the 2016 Form 5329 while the tax is reported on and is paid with the 2017 personal tax return (Form 1040). Rev. 9/

47 Contribution Reporting on Form 5498 Corrections Correcting Form 5498 sometimes requires one form to correct and sometimes requires two forms. The table below summarizes which types of corrections can be completed with one form and which require two forms. Incorrect money amount or checkbox or Incorrect payee name or Form should not have been filed (e.g., a transfer that is reported as a contribution or a distribution) No TIN or Incorrect TIN or Incorrect payee name AND address or Wrong form used to file information Prepare a new information return Mark x in the corrected box Correct incorrect information and leave correct information as is Prepare a new Form 1096 transmittal form Provide information requested on Form 1096 File Form 1096 and Copy A of corrected form with IRS Do not include original reporting form Prepare a new information return Mark x in the corrected box if there was one previously issued even if it did not include all the information. Enter information exactly as it was entered on the original return, but enter zeros (0) for all money amounts. Report ALL correct incorrect information on a new form. Do not mark corrected box. Prepare a new Form 1096 transmittal form Enter description of correction at bottom of Form 1096 (e.g., Filed to Correct TIN) Provide information requested on Form 1096 File Form 1096 and Copy A of corrected form with IRS Do not include original reporting form Rev. 9/

48 Contribution Reporting on Form 5498 One Form Correction (Incorrect Participant Name) In this example, a Form 5498 was generated in the name of Russell N. Cattell; however, all the information being reported is actually for Brandon Cattell. The part of the Form 5498 that is incorrect is circled below for illustrative purposes only. To correct the error, simply create another Form 5498, mark the corrected box, report all the information as it was on the first Form 5498, but correct the participant s name to Brandon Cattell, and submit to the IRS. If there are fewer than 250 corrections of the same form being submitted to the IRS, the correction may be done on paper and transmitted with Form However, if 250 or more corrections of the same form are being submitted to the IRS, the corrections must be submitted electronically. Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Russell N. Cattell X 123 Rodeo Way Bronco TX ORIGINAL X Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Brandon Cattell X 123 Rodeo Way Bronco TX CORRECTED Rev. 9/

49 Contribution Reporting on Form 5498 If corrected for 2016 Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Russell N. Cattell X 123 Rodeo Way Bronco TX ORIGINAL X Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Brandon Cattell X 123 Rodeo Way Bronco TX CORRECTED Rev. 9/

50 Contribution Reporting on Form 5498 One Form Correction (Incorrect Dollar Amount) In this example, a Form 5498 was generated in the name of Brandon Cattell for a 2015 $3000 conversion contribution; however, there was a data entry error, and the conversion was entered without decimal and cents amount (i.e., $ ). The part of the Form 5498 that is incorrect is circled below for illustrative purposes only. Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Brandon Cattell X 123 Rodeo Way Bronco TX ORIGINAL To correct the error, simply create another Form 5498, mark the corrected box, report all the information as it was on the first Form 5498, but correct the contribution amount ($ instead of $3000), and submit to the IRS. If there are fewer than 250 corrections of the same form being submitted to the IRS, the correction may be done on paper and transmitted with Form However, if 250 or more corrections of the same form are being submitted to the IRS, the corrections must be submitted electronically. X Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Brandon Cattell X 123 Rodeo Way Bronco TX CORRECTED Rev. 9/

51 Contribution Reporting on Form 5498 If corrected in 2016 Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Brandon Cattell X 123 Rodeo Way Bronco TX ORIGINAL X Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Brandon Cattell X 123 Rodeo Way Bronco TX CORRECTED Rev. 9/

52 Contribution Reporting on Form 5498 Two Form Correction (Incorrect Participant Name AND Address) In this example, a Form 5498 was generated in the name of Russell N. Cattell; however, all the information being reported is actually for Brandon Cattell and in addition, Brandon s address is incorrect on the form. The parts of the Form 5498 that are incorrect are circled below for illustrative purposes only. Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Russell N. Cattell X 123 Ordeo Way Bronco TX ORIGINAL With a two form correction, the first step is to undo what was reported improperly. To do this, everything is reported the way it was originally, but the corrected box is marked and all dollar amounts are replaced with zeros as shown below. X Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Russell N. Cattell X 123 Ordeo Way Bronco TX CORRECTED Rev. 9/

53 Contribution Reporting on Form 5498 If corrected in 2016 Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Russell N. Cattell X 123 Ordeo Way Bronco TX ORIGINAL X Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Russell N. Cattell X 123 Ordeo Way Bronco TX CORRECTED Rev. 9/

54 Contribution Reporting on Form 5498 The final step in a two form correction is to create a new Form 5498 with the proper information on it. This means correcting the participant s name to Brandon Cattell and fixing the address and submitting this Form along with the corrected Form to the IRS. If there are fewer than 250 corrections of the same form being submitted to the IRS, the correction may be done on paper and transmitted with Form However, if 250 or more corrections of the same form are being submitted to the IRS, the corrections must be submitted electronically. If corrected for 2017 Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Brandon Cattell X 123 Rodeo Way Bronco TX Note The CORRECTED box is NOT checked. Rev. 9/

55 Contribution Reporting on Form 5498 If corrected for 2016 Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Brandon Cattell X 123 Rodeo Way Bronco TX CORRECTED Note The CORRECTED box is NOT checked. Complete IRS Instructions for Form 5498 and Form 1099-R are available at: Rev. 9/

56 Contribution Reporting on Form 5498 Questions and Answers Q-1 When must a Form 5498 be sent to the IRA Accountholder? A-1 A Form 5498* must be sent to an IRA Accountholder Whenever any type of contribution is received: Traditional IRA, Roth IRA, Roth Conversion, Rollover, Recharacterization, SEP IRA, SIMPLE IRA, Postponed contribution or Repayment Whenever there is a balance in the IRA on December 31 In the year of the IRA Accountholder s death *Remember the requirement can be accomplished in January with the year-end statement. Q-2 Our IRA Accountholder died in November, but had closed the account in July. Is a Form 5498 required? A-2 No, since you did NOT have an IRA for him at the time of death, the balance was zero, a Form 5498 is NOT required for the year of death. Q-3 How is a QRP Conversion reported? A-3 The QRP Form 1099-R reports the conversion using Code G. The Roth IRA Form 5498 reports the conversion in Box 3. Q-4 If an IRA Custodian/Trustee reporting error is discovered, how far back must it be to NOT have to correct it? A-4 There is NO TIME LIMIT. All reporting errors must be corrected regardless of how old the errors are. Q-5 We have purchased a number of financial institutions this year and have discovered the previous IRA Custodian made a reporting error. How is it corrected? Whose TIN do we use? A-5 Matters like this must be addressed in the purchase agreement. If not, your legal counsel must decide how to correct it. Usually, the old IRA Custodian s TIN is used with a letter sent along as an explanation. But again, you must follow your legal counsel s advice. Q-6 We have an IRA Accountholder with both Employee and Employer SIMPLE IRA contributions. How do we report them on Form 5498? A-6 They are reported in total. Both the Employer and Employee SIMPLE IRA contributions are reported in Box 9. Rev. 9/

57 Contribution Reporting on Form 5498 Q-7 Our IRA Holder established a Roth IRA in We just recently discovered, that although all of the correct paperwork was established for a Roth IRA, we have been reporting it as a Traditional IRA. What do we need to do? A-7 It s really quite easy, but it is lengthy. Since the Roth IRA was properly established with Roth IRA documents, it is the administration and reporting that is NOT correct, and it is the responsibility of the IRA Custodian/Trustee to report IRA transactions correctly. You can NOT just now establish a Traditional IRA for this. So, you must correct all Forms 5498 for the Traditional IRA from 2008 to the present, by zeroing them out. Then, you must prepare Forms 5498 for the Roth IRA, again from 2008 to the present. These must all be sent to both the IRA Holder as well as the IRS. Q-8 Our IRA Holder made an IRA Contribution for 2015 on January 15, He later comes back on April 13, 2016 to make a contribution for In July 2016 we realize that the documentation for the supposed 2015 contribution actually stated, signed by the IRA Holder, it was also for 2016! Can this be corrected? A-8 There are two situations here to consider. First, was the documentation signed by the IRA Holder per the IRA Holder s request and did they knowingly sign it? (Meaning now they discovered the error and is trying to make up for their error.) If that is the case it is an excess contribution and must be corrected as any other excess contribution. They will NOT be able to make up the 2015 contribution. Second, if it was an actual IRA Custodian/Trustee error, then it can be corrected. CAUTION: If it was NOT your error and you are just trying to help a good customer, the IRS takes a dim view on such practices and your financial institution would be opening itself up to possible IRA scrutiny and penalties. So, assuming the error was truly by the IRA Custodian/Trustee, you correct it by correcting the 2015 Form 5498 showing the contribution. And you correct your records so the 2016 Form 5498 shows just one contribution. However, since the IRA Holder signed the apparent wrong contribution form, the IRS still could rule it to be an excess contribution. Rev. 9/

58 Contribution Reporting on Form Rev. 9/

59 Distribution Reporting on Form 1099-R CHAPTER 3: Distribution Reporting on Form 1099-R There are several concerns when reporting distributions on Form 1099-R including reporting the proper amount to the proper person under the proper distribution code with the proper withholding elections applied. This form is due to the IRA Holder/Beneficiary by January 31, or the next regular business day, of the following year. The due dates are as follows: Due Date Calendar IRA Holder/ Due Date to Due Date to IRS Year Beneficiary IRS (paper) Electronically 2013 Jan. 31, 2014 Feb. 28, 2014 Mar. 31, Feb. 2, 2015 Mar. 2, 2015 Mar. 31, Feb. 1, 2016 Feb. 29, 2016 Mar. 31, Jan. 31, 2017 Feb. 28, 2017 Mar. 31, Jan. 31, 2018 Feb. 28, 2018 April 2, 2018 Properly reporting distributions starts with a familiarity with Form 1099-R, itself. Basic reporting rules for distributions are the focus of this chapter, and withholding notices and reporting are covered in more detail in Chapter 4. Note 1: A separate 1099-R must be used whenever two distribution codes are used to describe two different kinds of distributions. Note 2: The Void box should be marked on a Form 1099-R when using continuous forms if a completed or partially completed form is incorrect and you want to void it before sending it to the IRS. Any forms with an x in the Void Box will be completely disregarded by the IRS, and consequently, there is no need to mark the Corrected box if a form is retyped to replace the voided form. Do not use the Void box to correct forms after they are sent to the IRS. The 2016 and 2017 Forms 1099-R follow. Rev. 9/

60 Distribution Reporting on Form 1099-R Rev. 9/

61 Distribution Reporting on Form 1099-R Form 1099-R is a five-part form. Copy A is sent to the IRS and appears in red on the official form. A black and white facsimile of Form 1099-R follows. Copy 1, looks like Copy A, except it is printed in black and it is used when a distribution is subject to state, city, or local taxation and is sent to the appropriate taxing entity. Both Copy B and Copy C are sent to the IRA Holder/Beneficiary and they both have instructions on the back to help IRA Holders/Beneficiaries understand what is being reported on the form. Copy B, is the copy an IRA Holder/Beneficiary is to send in with his or her taxes if required. Copy C, is the copy an IRA Holder/Beneficiary retains for his or her records. Copy D, the Custodian/Trustee or Issuer s copy, looks exactly like Copy A, except for the color (black and white, not red), and it has information related to reporting deadlines and instructions that are specific to the Custodian/Trustee or Issuer. The purpose of the boxes that contain identifying information about the Custodian/Trustee and Participant (IRA Account Holder/Beneficiary) are obvious for the most part. Please note, however, that according to the general instructions for filing Form 1099-R, a unique identifier is required for the Account Number field if you have multiple accounts for a recipient or if you are filing more than one information return of the same type (page 9). The account number must be unique and identifiable to all parties (i.e., the financial organization, the IRS, and the IRA Holder/Beneficiary). Adding this requirement ensures that corrections are properly processed. Some financial organizations use a basic account number for each customer and apply an appended digit for each new account opened by the customer. For example, a financial organization may create a unique account number for a customer, such as However, the customer s Traditional IRA would be listed as Acct. No , and his Roth IRA might be listed as Acct. No Also, please note if you are using window envelopes for reduced rate mail, be sure the account number does not show through the window. Rev. 9/

62 Distribution Reporting on Form 1099-R For Example: Account Number Sample: First two numbers = Branch Number Second set of numbers = Part of SSN/TIN Third set of numbers = IRA Type 01 = Traditional IRA 02 = Roth IRA 03 = SEP IRA 04 = SIMPLE IRA 05 = Inherited Traditional IRA 06 = Conduit Traditional IRA 07 = HSA 08 = CESA 1099-R Filers May Truncate an IRA Holder s Social Security Number Filers of Form 1099-R may truncate an IRA Holder s social security number (SSN), starting for the 2013 reporting year. It is allowed. It is NOT required. Form 5498, IRA Contribution Information Per the IRS Instructions, Truncating recipient's identification number on payee statements. Pursuant to Treasury Regulations section , all filers of Form 1099-R may truncate a recipient s identification number (social security number (SSN), individual taxpayer identification number (ITIN), adoption taxpayer identification number (ATIN), or employer identification number (EIN)) on payee statements. Truncation is not allowed on any documents the filer files with the IRS. See part J in the 2015 General Instructions for Certain Information Returns, for more information. NOTE: Since 2013, this procedure remains OPTIONAL. Truncating is NOT REQUIRED! Purpose of Form 1099-R Form 1099-R is used to report a wide variety of distributions. In addition to the Custodian/Trustee and participant information that must be provided on Form 1099-R, which is more or less self-explanatory, Form 1099-R also reports the following information relating to IRA distributions. There were no new instructions for the 2015 Form 1099-R however, the use of Code K became mandatory. Rev. 9/

63 Distribution Reporting on Form 1099-R OPTIONAL FOR 2014 REPORTING REQUIRED STARTING IN 2015 Use Code K to report distributions of IRA assets not having a readily available FMV. These assets may include: Stocks, short or long-term obligations, ownership interests in limited liability companies (LLCs), partner ships, trusts, or similar entities, not readily tradable on an established US or foreign securities market, real estate, or option contracts or similar products not offered for trade on an established US or foreign option exchange. The IRS Instructions describe the use of Code K in this manner: Use Code K to report distributions of IRA assets not having a readily available FMV. These assets may include: stock, other ownership interest in a corporation, short or long-term debt obligations, not readily tradable on an established securities market, ownership interest in a limited liability company (LLC), partnership, trust, similar entity (unless the interest is traded on an established securities market), real estate, option contracts or similar products not offered for trade on an established option exchange, or other asset that does not have a readily available FMV. CAUTION! JM Consultants recommends being very careful in using the not readily available reason/excuse for NOT obtaining FMVs. We believe the IRS will be auditing this new reporting requirement of not obtaining FMVs when they are available could result in substantial extra scrutiny IRS penalties. NOTE: Remember, the use of these codes was still OPTIONAL for They are MANDATORY START- ING IN 2015! What s New for 2015? Extension of tax-free distributions from IRAs for charitable purposes. Public Law permanently extends tax-free distributions from IRAs for charitable purposes, for distributions made in tax year 2015 and later. What s New for 2016? New early distribution exceptions. Public Laws and added Federal law enforcement officers, Federal customs and border protection officers, Federal firefighters, air traffic controllers, nuclear materials couriers, members of the United States Capitol Police or Supreme Court Police, and diplomatic security special agents of the Department of State to the definition of qualified public safety employees under 72(t)(10(B)) eligible for an early distribution exception for distributions made after separation from service in or after the year the employee has reached age 50. These changes are effective for distributions made after December 31, What s New for 2017? There are no IRA-related changes for Rev. 9/

64 Distribution Reporting on Form 1099-R 2016 Form 1099-R Rev. 9/

65 Distribution Reporting on Form 1099-R 2016 Form 1099-R 1 /2 * SEE NOTE 1 /2 1 /2 Rev. 9/

66 Distribution Reporting on Form 1099-R 2016 Form 1099-R % 1 /2 Note 1: IRS Code 2, Early distribution exception Public Laws and added Federal law enforcement officers, Federal customs and border protection officers, Federal firefighters, air traffic controllers, nuclear materials couriers, members of the United States Capitol Police or Supreme Court Police, and diplomatic security special agents of the Department of State to the definition of qualified public safety employees under 72(t)(10(B)) eligible for an early distribution exception for distributions made after separation from service in or after the year the employee has reached age 50. These changes are effective for distributions made after December 31, Note 2: IRS Code 5, Prohibited Transactions Code 5 must be used for ALL PT situations, regardless of the age of the IRA Holder, type of IRA, Inherited IRA Holder, or type of Inherited IRA. Note 3: IRS Code K The IRS has provided no other guidance besides the explanation and description provided above. Rev. 9/

67 Distribution Reporting on Form 1099-R 2017 Form 1099-R Rev. 9/

68 Distribution Reporting on Form 1099-R 2017 Form 1099-R 1 /2 1 /2 1 /2 1 /2 1 /2 Rev. 9/

69 Distribution Reporting on Form 1099-R 2017 Form 1099-R % Note 1: IRS Code 2, Early distribution exception Public Laws and added Federal law enforcement officers, Federal customs and border protection officers, Federal firefighters, air traffic controllers, nuclear materials couriers, members of the United States Capitol Police or Supreme Court Police, and diplomatic security special agents of the Department of State to the definition of qualified public safety employees under 72(t)(10(B)) eligible for an early distribution exception for distributions made after separation from service in or after the year the employee has reached age 50. These changes are effective for distributions made after December 31, Note 2: IRS Code 5, Prohibited Transactions Code 5 must be used for ALL PT situations, regardless of the age of the IRA Owner, type of IRA, Inherited IRA Owner, or type of Inherited IRA. Note 3: IRS Code K The IRS has provided no other guidance besides the explanation and description provided above. Rev. 9/

70 Distribution Reporting on Form 1099-R Abandoned IRAs Under the Uniform Unclaimed Property Act of 1995, bank accounts, including IRAs are considered abandoned if there is no activity after three years. For the purpose of this act, activity would include: Additions Withdrawals Communication of any kind with the customer Tax reporting that has not been returned as undeliverable However, this act does NOT necessarily supersede state escheat or banking laws that may address how to handle IRA assets that are presumed to be abandoned. Generally speaking, if a state law is different than the model act with respect to abandoned IRAs, competent legal advice should be consulted to determine how the two laws may be reconciled. In some cases it may require a longer period of time before the assets are delivered to the state administrator, and in some cases a shorter period of time. However, the IRS has never directly addressed this situation for IRAs. Inactivity Does Not Necessarily Mean an IRA is Abandoned Given that the nature of IRAs lends itself to voluntary contributions that may be sporadic, and they are designed to discourage taking distributions before age 59 1 /2, a lack of contribution and withdrawal activity in such accounts is often more common than it is in other types of accounts. Searching for Missing IRA Holders/Beneficiaries There are many ways a financial organization may attempt to reach an inactive customer including professional locating services. However, it is generally more cost effective to try more mundane tactics first, such as the phone book and Internet searches. In some cases, a customer s inactivity may be explained by the fact that they have moved and opened an account closer to their new home to make deposits, so you may want to expand your search area beyond the local phonebook when searching for a missing IRA Holder/Beneficiary. Any attempts to contact a missing IRA Holder/Beneficiary should be documented in writing, with the time and attempted method of contact, because the Uniform Unclaimed Property Act indemnifies financial organizations that remit unclaimed assets to the state if they keep records that satisfy reasonable standards of practice for their industry. Although there is no official guidance, some IRS employees have taken the position that because the escheat of an IRA can have a serious detrimental impact on an IRA Holder s financial and tax situation, financial organizations should go beyond simply contacting the last address on file and should consider contacting the IRS, the Social Security Administration and taking advantage of the their forwarding services. The DOL has stated that they are stepping up their audit schedules of QRPs pertaining to forfeited funds for missing participants. They consider this an important compliance area. They want to make sure that the plan administrator is doing their due diligence in searching for the participants and/or beneficiaries. For years the DOL has recommended procedures to locate missing participants BEFORE forfeiting QRP Funds. Rev. 9/

71 Distribution Reporting on Form 1099-R These would also be good practices to follow BEFORE escheating an IRA or Inherited IRA. These include: Using available third party services Using available Internet services, Using State Historical Records Using the Social Security Death Index NOTE: While this DOL announcement mentioned only employer plans, auditing IRAs could not be far behind, especially SEP and SIMPLE IRA Plans. It is a good idea that all IRA Custodians/Trustees have a written plan concerning the locating of missing IRA Holders and beneficiaries. Elimination of the Social Security Administration s Letter Forwarding Service Since 1945, the Social Security Administration (SSA) has provided a service, first free and then with a cost, that allowed employers, plan administrators, and other individuals and entities the ability to locate missing employees, plan participants and others. Employers and plan administrators would give information to the SSA which the SSA would then forward to the individual. The SSA would NOT provide the actual address to the requester, but they would forward the information, statement, check, etc. to the last known address in their files. It was up to the employee or plan participant to contact the employer or plan administrator. As of May 19, 2014 this service is eliminated. The April 11, 2014 SSA announcement stated the following: New Information: In recent years, the internet offers a rapid expansion of locator resources via free social media Web sites and for pay locator services. The public now has widespread access to the Internet and the ability to locate individuals without relying on our letter forwarding services. Based on the availability of the alternative locator resources and the effects it would be as a cost saving measure, we are discontinuing the letter forwarding service. This decision is in line with the Internal Revenue Service, which successfully eliminated part of its letter forwarding workload as of August 31, This does NOT mean employers and plan administrators do NOT need to locate missing employees and plan participants, it means they need to locate them using other services. Before escheating any assets to state governments there must be due diligence done or liability issues could certainly be a possibility. Rev. 9/

72 Distribution Reporting on Form 1099-R Abandoned Property Reporting If a financial organization is unable to find a missing IRA Holder or Beneficiary, it must file a report, the contents of which are determined on a state-by-state basis. The deadline for filing this report with the Commissioner is usually on or before November 1 of each year, and should reflect property considered abandoned as of June 30 of the reporting year. This information will then be published in a notice published in a newspaper of general circulation in the county of the last known address of the IRA Holder under the title Notice of Names of Persons Appearing to be Owners of Abandoned Property. This notice must be published on or before April 1 of each year and at least once but not more than twice and will include the IRA Holder s name, last known address, and provide information on how to claim the property. The state will also send out a mailing to the last known mailing address of each person on the list. Delivering Abandoned IRA Assets to the State Unless state law specifies otherwise, all property that has been reported but not yet claimed must be delivered to the state administrator six months after the final date for filing the abandoned property report. To complete this transaction, the financial organization should fill out the withdrawal form and explain that the reason for the distribution is escheat. When the state receives the property they act as custodians of it, they do not take title to it. After three years, any unclaimed property will be sold at a public auction to the highest bidder. If a financial organization follows the rules as outlined in the Uniform Unclaimed Property Act, they are largely shielded from any legal consequences of turning over an unclaimed IRA to the state should a missing IRA Holder eventually surface. That said, not complying with the rules outlined in the act could result in penalties for people who willfully violate it, as well as misdemeanors for financial organizations that fail to report and gross misdemeanors for failing to deliver abandoned property to the state. Escheat and Forfeitability Although there is no guidance specifically addressing how escheat affects the status of an IRA, the IRS has issued regulations for qualified retirement plans that indicate that qualified retirement plans that revert to the state are not treated as forfeited. Since ERISA plans may escheat accounts, it seems reasonable that the IRS would not prohibit IRAs from being escheated, especially in light of the Uniform Unclaimed Property Act. If an IRA Holder does resurface after assets have been escheated, conservatively, they may want to request a private letter ruling before attempting to put back the assets in an IRA. Reporting Escheated IRAs Since there are no written guidelines from the IRS regarding how to report escheated IRAs, the most conservative approach, and the one JM Consultants recommends, is to report escheated assets as if you were distributing to the IRA Holder or Beneficiary, and use whatever withholding election is on file (if no withholding election is on file, withhold 10 percent). All regular IRS distribution codes apply. Example: A $2,000 escheated IRA is distributed to the State. However mandatory 10% withholding was taken from the distribution for Federal Withholding. $200 was sent to the IRS in the Name and SSN of the IRA Holder. Copies of ALL documentation should be sent to the last known address of the IRA Holder. (If it is returned it must be retained in the files of the IRA Custodian/Trustee.) Rev. 9/

73 Distribution Reporting on Form 1099-R Reporting Early Distributions As was mentioned earlier, even though an IRA Holder under age 59 1 /2 may be eligible for an exception to the early distribution penalty, the financial organization often must code the distribution in Box 7 of Form 1099-R as a code 1 because there is no good way for the financial organization to determine whether the IRA Holder really is eligible for the exception. The table below shows which early distribution penalty exceptions are reported as a code 1, which have a special code, and the documentation necessary to code a distribution with the special code. Rev. 9/

74 Distribution Reporting on Form 1099-R Withholding (Federal Income Tax) Federal Income Tax Withholding requirements apply to all taxable distributions from a Traditional, SEP, and SIMPLE IRA. Many people mistake the 10 percent early distribution penalty with the default requirement that 10 percent be withheld from Traditional, SEP, and SIMPLE IRA distributions unless the IRA Holder/Beneficiary waives withholding. They are two completely different things. The 10 percent income tax withholding is a prepayment of anticipated taxes on an IRA distribution. It may or may not be refunded when a person does their Federal income taxes depending on their overall tax situation. The 10 percent early distribution penalty, on the other hand, is not assessed until the person does their taxes. In other words, although it applies to all early distributions if a person is not eligible for an exception to the penalty, the financial organization does not specifically withhold for the penalty. The payment for the early distribution penalty is handled on the person s income taxes. Withholding (State, City, or Local Income Tax) State, city, or local income tax withholding may apply to some distributions from a Traditional, SEP and SIM- PLE IRA, including early distributions. If you are uncertain about what state or local withholding requirements apply, you should contact your state department of revenue. In fact, more and more states are requiring an IRA Custodian/Trustee to withhold out-of-state taxes if the IRA Holder or Beneficiary requests it. For instance, an IRA Holder/Beneficiary is a resident of State A, but has an IRA in State B. (This is especially frequent now with self-directed IRAs and electronic banking.) State A requires the IRA Custodian/Trustee in State B to withhold for State A income tax. Form W-4P Withholding Notice Most IRA Holders/Beneficiaries will use IRS Form W-4P or valid substitute to make a Federal withholding election for their IRA distribution. If a person is eligible to use Form W-4P for their Traditional, SEP, and SIMPLE IRA withholding elections, they have three options: To waive withholding. If a person elects to waive withholding, no withholding will apply to the distribution or any future distribution until the election is changed, To make no election and accept the 10 percent withholding default. If no election is made, all distributions will be subject to withholding at the rate of 10 percent of the gross distribution. To request that more than 10 percent apply to the distribution.* *Note: It is not clear if an IRA Holder/Beneficiary is allowed to request to withhold less than 10%. Federal Withholding can also apply to certain taxable Roth distributions, such as nonqualified distributions or removals of excess. NOTE: Many states have their own version of the W-4P for withholding state tax. Example: Iowa, Massachusetts, Michigan, Missouri Rev. 9/

75 Distribution Reporting on Form 1099-R All withholding elections should be signed and dated, and kept in the beneficiary s file, so that auditors know which election was in force for a particular distribution and it can be verified to the IRS if asked. Generally, Roth IRA distributions are not subject to Federal withholding requirements with the exception of corrections of excesses and nonqualified distributions. IRA Holders not Eligible to Use Form W-4P. Mandatory 10 Percent Federal Withholding for U.S. Citizens and Resident Aliens A financial institution must withhold Federal income tax at a mandatory rate of 10 percent if an IRA distribution recipient is a U.S. citizen or resident alien and fails to: Make a withholding election by the time of the distribution, Provide a residence address inside the United States, or Provide a valid taxpayer identification number. In that case, the IRA Holder/Beneficiary can NOT elect to not have Federal withholding. Distributions to Nonresident Aliens IRA distributions to nonresident aliens are subject to different Federal income tax withholding rules than distributions to U.S. Citizens and resident aliens (IRC Sec rather than IRC Sec. 3405). Generally distributions to nonresident alien IRA Holders/Beneficiaries are subject to 30 percent Federal income tax withholding, and unlike most distributions to U.S. Citizens and resident aliens, withholding may not be waived at the sole discretion of the IRA Holder/Beneficiaries. However, if the current tax treaty between the U.S. and a nonresident alien IRA Holder s/beneficiary s home country is less than 30 percent, the IRA Holder/Beneficiaries may elect the lower treaty rate. To take advantage of this lower rate, a nonresident alien must provide the IRA Custodian/Trustee with an individual taxpayer identification number (ITIN) and a completed IRS Form W- 8BEN, Certificate of Foreign Status of Beneficial Owner for U.S. Tax Withholding. Financial organizations must file Form 1042-S rather than Form 1099-R to report distributions made directly to nonresident aliens. In addition, Form 1042-T is used instead of Form 1096 and Form 1042 is used instead of Form 945. The IRA Custodian/Trustee may require the 30% withholding as part of their standard procedures, foregoing the extra work and documentation involved with the tax treaty. In that case, the IRA Holder/Beneficiary can file with the IRS for any refund due. NOTE 1: Although most financial organizations rarely handle such distributions, it should be mentioned that nonresident aliens working through a qualified intermediary use Form W-8IMY, which will detail which withholding reporting responsibilities that will be assumed by the intermediary and which will remain the responsi- Rev. 9/

76 Distribution Reporting on Form 1099-R bility of your financial organization. These types of distributions also use different transaction forms and procedures for processing. NOTE 2: These procedures seem to change often. It is a good idea to always check the most current procedures before entering in to the transaction. Bank Fee/Penalty If a bank penalty is deducted from a distribution, such as in the case where a CD is cashed in early, it is not included in the gross amount distributed or reported. The same is true for a bank fee, such as transfer fee or termination fee, that is deducted from the distribution. Any Federal Withholding is based on the reported gross amount. Example: Edward takes a $5,000 distribution which is subject to a $50 early withdrawal fee. The bank will take $50 from the distributed amount, Edward will receive $4,950, and the gross distribution will be reported as $4,950 in Box 1 and 2a of Form 1099-R. All financial institution IRA fees and penalties are NOT included in Box 1 or 2a of Form 1099-R. Claiming Losses on IRA Investments In order to claim a loss on an IRA investment, an IRA Holder/Beneficiary must distribute all amounts in all IRAs (Traditional, SEP, SIMPLE and Roth IRAs) and the total distributions must be less than the total amount contributed in both deductible and nondeductible contributions made by the IRA Holder/Beneficiary. Such losses are subject to an adjusted gross income limit that applies to certain miscellaneous itemized deductions on Schedule A of Form 1040, and the losses must be added back into taxable income for the purpose of calculating the alternative minimum tax. and IRA and Inherited IRA Holders should consult with their own tax counsel in matters like this. Qualified Charitable Distributions (QCD): NOW PERMANENT AS OF 1/1/16 Qualified charitable distributions were originally allowed through December 31, The American Taxpayer Relief Act of 2012, commonly referred to as the Fiscal Cliff Bill, extended this provision through In addition, there were transition rules for There were six possible situations affecting If the IRA Holder followed all of the previous guidelines from 2011 and earlier, and distributed IRA funds/assets directly to a qualified charity in 2012, it qualifies as a QCD for If a distribution was taken in December 2012, it can be sent directly to a qualified charity by the IRA Holder. This, too, qualifies as a 2012 QCD if completed by January 31, A distribution can be sent directly to a qualified charity between January 1 and January 31, 2013 and will also qualify as a 2012 QCD. Rev. 9/

77 Distribution Reporting on Form 1099-R 4. If the QCD is made in January 2013 for 2012, it can count toward the 2012 RMD...not a misprint... the 2012 RMD, having not been taken, can be satisfied in January 2013 if it is sent to a Qualifying Charity by January 31, Any QCD distributed in 2013 for 2012 can NOT be counted toward the 2013 RMD, even if the 2012 RMD was otherwise satisfied. If it's for the 2012 QCD, it's for 2012 for everything. 6. If a QCD is made in January 2013 for 2012, the QCD amount must be subtracted from the December 31, 2012 FMV for purposes of calculating the 2013 RMD. (NOTE: This is a new adjustment for the 2013 RMD calculation.) QCDs Extended for 2014 In yet another last minute Federal Legislative push, while many legislators were grumbling because they had to postpone their holiday recess, a temporary, partial budget bill was passed and then signed by the President. Few people can tell you what all was included, and that includes the individuals who voted for or against the bill! But one thing that was included was the extension of the IRA Qualified Charitable Distribution (QCD). However at the time, it was only extended for And there are no transition rules for making a QCD for 2014 in 2015! The QCD must have been completed by December 31, QCDs Extended Again! On December 18, 2015, President Obama signed into law H.R which combines the Protecting Americans From Tax Hikes (PATH) Act and the Consolidated Appropriations Act of As part of this bill, Qualified Charitable Distributions (QCDs) have not only been approved effective January 1, 2015 BUT IN ADDITION, have been made PERMANENT! No other changes to the procedure have been announced. The same basic rules must continued to be followed. That means if the IRA Holder followed all of the previous guidelines and distributed IRA funds/assets directly to a qualified charity any time in 2014, it qualifies for We review the previous rules here. Qualified Charitable Distributions (QCDs) All QCDs must have followed the same requirements and limitations as previous years. A person who is 70 1 /2 or older may exclude up to $100,000 from income for the year if they transfer the assets directly to a qualified charity (i.e., the check must be made payable to the charity). Furthermore, only amounts that would have otherwise been included in income had they not been made to a qualified charity are eligible for the exclusion (in other words, basis, whether originating in a Traditional or a Roth IRA, is not eligible for an exclusion). QCDs can be done in-kind, meaning assets can be directly transferred. They need to be reported at FMV. Rev. 9/

78 Distribution Reporting on Form 1099-R The QCD can be more or less than the RMD! Some individuals who want to avoid taking RMDs for tax reasons may want to consider using a qualified charitable distribution to satisfy all or part of their RMD obligation. These transactions are reported like normal distributions on Form 1099-R, and are treated much like tax-free rollovers for tax purposes (that means the IRA Holder handles the tax write-off on his or her annual income tax filing). Traditional IRA Holders who want to take advantage of this benefit should be sure to consult a competent tax advisor and keep receipts of acknowledgement from the charity they are funding. Roth IRA Holders (a Roth IRA Holder must be 70 1 /2 for the purpose of eligibility to make a qualified charitable distribution) may also take qualified charitable distributions, as may SEP and SIMPLE IRA Holders, but in the case of SEPs and SIMPLEs the plan must not be considered ongoing to be eligible for this special tax treatment. A plan is considered ongoing for this purpose if an employer contribution is made for the plan year ending with or within the tax year for which the qualified charitable distribution treatment is sought. NOTE: QCDs are NOT allowed from Inherited IRAs unless the Inherited IRA Holder has attained age 70 1 /2. Most vendors have a charitable distribution form, but since these transfers must be direct, financial organizations should request a letter from the receiving charity, especially when the vendor does not have a form, on the charity s letterhead that includes the charity s: 1. Full legal name 2. Address (both street and PO Box, if applicable) 3. Tax ID number 4. Contact person, as well as information on how to reach that person, and an authorizing signature 5. Telephone Number Remember, QCDs are NOW PERMANENT!. Rev. 9/

79 Distribution Reporting on Form 1099-R All Future QCDs will probably follow the same requirements and limitations as previous years. Under this distribution option, persons 70 1 /2 or older have had the ability to exclude up to $100,000 of their RMD from income if they transfer their RMD distribution directly to a qualified charity. Most vendors have a charitable distribution form, but since these transfers must be direct, financial organizations should request a letter from the receiving charity on the charity s letterhead that includes the charity s: 1. Full legal name 2. Address (both street and PO Box, if applicable) 3. Tax ID number 4. Contact person, as well as information on how to reach that person, and an authorizing signature. Also see Chapter 5 for additional information on the QCD. Step-by-Step Distribution Processing 1. Has the customer filled out the distribution form, dated and signed it? 2. From which type of IRA is the distribution being taken? Traditional/SEP/SIMPLE/Roth 3. How much does the customer want to receive as a distribution? 4. Are there enough assets in the account to pay any applicable fees and penalties and maintain any minimum balance requirements? If no, may need to change distribution request, or close account. 5. Is the distribution part of a recurring payout? No. Offer withholding election and notice at the time of distribution. Yes. Offer withholding election and notice at the time of initial distribution, and make sure to send withholding notices to customer based on payout frequency (see Chapter 4 for more details). 6. Has the customer waived withholding, or elected withholding greater than 10 percent? If waived, do not apply withholding. If no election on file, withhold at 10 percent. If greater than 10 percent, apply per customer instructions.* *Note: It is not clear if an IRA Holder/Beneficiary is allowed to request to withhold less than 10%. 7. Is the IRA Holder 59 1 /2 or older? No. Is the IRA Holder eligible for a reportable penalty exception (e.g., disability, substantially equal periodic payments, etc.)? Rev. 9/

80 Distribution Reporting on Form 1099-R Yes. Has the documentation required to substantiate the exception been received? Yes. Use proper internal code to report exception on Form 1099-R, and file documentation in the distribution section of customer file and log on distribution log sheet. No. Report as an early distribution based on type of IRA, and put in a correction file pending receipt of documentation. When information received, correct reporting and file forms with copy of check. Yes. If customer is 59 1 /2 or older, report as a normal distribution based on type of IRA and file with a copy of the check. Seven-Day Revocation Period: Applies Only When Opening a NEW Plan Agreement When a customer revokes an IRA during the seven-day revocation period, there are four administrative areas where a financial organization is most likely to run afoul of the seven-day revocation regulations. The notice of revocation is only required when an IRA is first established. Subsequent contributions to an already established IRA require no such notice. These areas are: 1. Returning the full amount of the contribution when a customer revokes an IRA, and 2. Determining when the seven-day clock starts, and 3. Providing the full range of required options under written and oral notification policies and 4. Correctly reporting the distribution Each of these concerns will be addressed individually in more detail below. NOTE: The revocation period may be more than seven days, it just cannot be less than seven days. (1)Full Amount of Contribution Must Be Returned The law allows all customers who establish an IRA at least seven days to revoke the IRA without any adjustment for such items as sales commissions, administrative expenses, fees or fluctuation in market value. (Treas. Reg (d)(4)(ii)(A)(2)). Although a financial organization must return the full value of the contribution to a customer who revokes an IRA during the seven-day revocation period, the financial organization is given the discretion whether to return amounts earned (interest) during that period, although the method used for determining the amount returned subsequent to a revocation should be stated in the disclosure statement both to insure consistent application of the distribution procedure and to facilitate good customer communication and avoid confusion. Since financial organization policies can vary, be sure to check your organization s policy on distributing earnings before processing a revocation. Rev. 9/

81 Distribution Reporting on Form 1099-R It makes no difference what type of investment it is when the IRA is first established with a Transfer or Rollover. Even if the asset is now worth less, the IRA Holder must receive the original amount of the transfer or rollover. It is a good idea for all IRA Custodians/Trustees to NOT take possession of those transferred or rolled over assets until the revocation period has ended. Remember, the revocation period begins when the IRA Holder receives the Revocation Disclosure, NOT when the assets are received. (See below) The IRA Custodian must provide their revocation procedure in writing so the IRA Holder knows how and where the IRA can be revoked. The Revocation Disclosure must include whether or not earnings are paid at the time of revocation, and how/if it will be calculated. (2) Seven Days Are Generally Counted from Date of Plan Establishment, But If the disclosure statements (including the financial disclosure) provide less than seven days before IRA establishment, the IRA may be revoked seven days after the date of establishment. Example: The IRA Custodian/Trustee provides IRA disclosure statements to a customer on October 3, which the customer takes home to read. Three days later, on October 6, the customer returns to sign the IRA plan document. The revocation period must start with the period following October 6, not October 3, because the time between receiving the IRA disclosure statements and IRA establishment was less than seven days. Therefore, the revocation period will extend through October 13, not October 10. If the customer had returned to sign the paperwork seven days or more after receiving the paperwork, no further revocation period would be required. (3) Procedure for Revoking an IRA(with all Applicable Options) should be contained in the IRA Disclosure Statement The steps to revoke an IRA must be addressed prominently at the beginning of the IRA disclosure statement. Financial organizations have some latitude regarding the type of notice they may require from the customer (i.e., written, electronic and/or oral). Mailed notices must be deemed received as of the date of the postmark, and oral notices, if allowed, must be permitted to be made by telephone during business hours. Electronic notification would be when received by the IRA custodian/trustee. (4) Required reporting for revocation The IRS has specific rules for reporting a revocation for both Forms 1099-R and Be sure to review the IRS procedures before reporting a revocation. Since IRS procedures can change frequently, always be sure to check the most current IRS Instructions for reporting revocations. Rev. 9/

82 Distribution Reporting on Form 1099-R Seven-Day revocation period of Inherited IRAs There is NO requirement for the seven day revocation period for inherited IRAs. However many forms vendors have included it in their disclosure statement for beneficiaries. IRA personnel should read their document carefully to determine its applicability. IRA Custodian/Trustee Responsibility If the revocation disclosure is NOT accurately provided by the IRA Custodian/Trustee, they are subject to the IRS penalties for not providing a disclosure statement. If the IRA Holder does NOT provide a timely request for a revocation in the format required by the IRA Custodian/Trustee, the IRA does not have to be revoked. All IRA Custodian/Trustee fees and penalties would apply. The IRA can still be closed by the IRA Holder, but the revocation limitations would NOT apply so fees and penalties can be charged. Example 1: The IRA Holder establishes an IRA for an incoming Transfer or rollover. He signs all the documentation and receives ALL of the disclosures. The funds arrive fifteen days later. The seven-day revocation period has elapsed because the disclosure was received 15 days ago. Example 2: An IRA is established with a rollover of stocks and bonds. Within seven days he decides to revoke the IRS. The reporting distribution is at FMV on the day of the revocation UNLESS the FMV is less than it was at the establishment f the IRA. In that case the FMV on the day of establishment must be used. Reporting IRA Revocations If a traditional or Roth IRA is revoked during its first 7 days (under Regulations section (d)(4)(ii)) or is closed at any time by the IRA trustee or custodian due to a failure of the taxpayer to satisfy the Customer Identification Program requirements described in section 326 of the USA PATRIOT Act, the distribution from the IRA must be reported. In addition, Form 5498, IRA Contribution Information, must be filed to report any regular, rollover, Roth IRA conversion, SEP IRA, or SIMPLE IRA contribution to an IRA that is subsequently revoked or closed by the trustee or custodian. If a regular contribution is made to a traditional or Roth IRA that later is revoked or closed, and a distribution is made to the taxpayer, enter the gross distribution in box 1. If no earnings are distributed, enter 0 (zero) in box 2a and Code 8 in box 7 for a traditional IRA and Code J for a Roth IRA. If earnings are distributed, enter the amount of earnings in box 2a. For a traditional IRA, enter Codes 1 and 8, if applicable, in box 7; for a Roth IRA, enter Codes J and 8, if applicable. These earnings could be subject to the 10% early distribution tax under section 72(t). If a rollover contribution is made to a traditional or Roth IRA that later is revoked or closed, and distribution is made to the taxpayer, enter in boxes 1 and 2a of Form 1099-R the gross distribution and the appropriate code in box 7 (Code J for a Roth IRA). Follow this same procedure for a transfer from a traditional or Roth IRA to another IRA of the same type that later is revoked or closed. The distribution could be subject to the 10% early distribution tax under section 72(t). If an IRA conversion contribution or a rollover from a qualified plan is made to a Roth IRA that later is revoked or closed, and a distribution is made to the taxpayer, enter the gross distribution in box 1 of Form 1099-R. If no Rev. 9/

83 Distribution Reporting on Form 1099-R earnings are distributed, enter 0 (zero) in box 2a and Code J in box 7. If earnings are distributed, enter the amount of the earnings in box 2a and Code J in box 7. These earnings could be subject to the 10% early distribution tax under section 72(t). If an employer SEP IRA or SIMPLE IRA plan contribution is made and the SEP IRA or SIMPLE IRA is revoked by the employee or is closed by the trustee or custodian, report the distribution as fully taxable. NOTE: Since the IRS procedures can change frequently, always be sure to check the most current IRS Instructions for reporting Revocations. There is no requirement for a Seven-Day revocation period for Inherited IRAs. However many forms vendors include one. Be sure to check your Inherited IRA Plan Agreement and Disclosure Statement. Filing Returns with the IRS All returns sent to the IRS should be carefully reviewed to help prevent the need for later corrections. If filing Form 1099-R in a paper format, you must send the transmittal Form 1096 with the paper forms you are submitting. A separate Form 1096 is required for each type of form you are submitting (e.g., one Form 1096 would be required for all paper Form 1099-Rs that are submitted and one would be required for all Form 5498s that are submitted) For organizations that are using substitute reporting forms, they must conform to the specifications in IRS Publication The 2016 and 2017 Form 1096, Annual Summary and Transmittal of U.S. Information Returns follow. Third Party Providers A transmitter, service bureau, paying agent, disbursing agent or any third party provider may sign Form 1096 on behalf of any person required to file (the payer) if the conditions in 1 and 2 below are met. 1. The third party provider has the authority to sign the form under an agency agreement (oral, written, or implied) that is valid under state law and 2. The third party provider signs the form and adds the caption For: (Name of payer). Signing of the form by a third party provider on behalf of the payer DOES NOT relieve the payer of the liability for penalties for not filing a correct, complete, or timely Form 1096 and accompanying returns. (A written authorization is recommended.) NOTE: Starting in 2015 a new Safe Harbor was passed by the legislature allowing reporting corrections to NOT be required by the IRA Custodian/Trustee if the dollar limit is below a certain level as long as the report/statement was filed/furnished timely. Rev. 9/

84 Distribution Reporting on Form 1099-R The error must be no more than $100, AND The error for tax withholding is no more than $25. CAUTION: Before adopting this change, JM Consultants recommends the IRA Custodian/Trustee discuss this with their internal and external auditors as well as their IRA Holders. In addition, if an IRA Holder requests a correction be filed, the IRA Custodian/Trustee MUST provide it. Rev. 9/

85 Distribution Reporting on Form 1099-R Rev. 9/

86 Distribution Reporting on Form 1099-R Rev. 9/

87 Distribution Reporting on Form 1099-R Rev. 9/

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89 Distribution Reporting on Form 1099-R Recordkeeping Financial organizations should keep copies of information returns filed with the IRS or have the ability to reconstruct the data for at least 5 years after filing them. That is the usual IRS auditing look-back. Shipping Information forms should be sent to the IRS in a flat (not folded) first class mailing. If you are sending many forms, you may send them in separate packages. If multiple packages are sent, write your name, and number each package separately, and place Form 1096 in package number one Electronic Reporting Currently the only methods available for filing returns are electronic or paper. Electronic filing is the preferred method for filing information returns with the IRS in all cases, although paper filing is allowed for those filing fewer than 250 information returns. For those filing 250 or more information returns, only electronic filing is allowed unless a financial organization applies for and receives a hardship waiver. Publication 1220 provides the procedures for reporting electronically and is updated annually. Financial organizations may file electronically information forms through the Filing Information Returns Electronically System (FIRE System); however, special software is required that can produce a file in the proper format according to Pub The FIRE System does not provide a fill-in form option. The FIRE System operates 24 hours a day, 7 days a week, and may be accessed via the Internet at Due Dates File Form 1099-R electronically with the IRS through the FIRE System by March 31. (Please refer to earlier chart.) Who Must File Electronically If you are required to file 250 or more information returns, you must file electronically. The 250-or-more requirement applies separately to each type of form. The electronic filing requirement does not apply if you apply for and receive a hardship waiver. Rev. 9/

90 Distribution Reporting on Form 1099-R Corrections Correcting Form 1099-R sometimes requires one form to correct and sometimes requires two forms. The table below summarizes which types of corrections can be completed with one form and which require two forms. Incorrect money amount or checkbox or Incorrect payee name or Form should not have been filed (e.g., a transfer that is reported as a contribution or a distribution) No TIN or Incorrect TIN or Incorrect payee name AND address or Wrong form used to file information Prepare a new information return Mark x in the corrected box Correct incorrect information and leave correct information as is Prepare a new Form 1096 transmittal form Provide information requested on Form 1096 File Form 1096 and Copy A of corrected form with IRS Do not include original reporting form Prepare a new information return Mark x in the corrected box if there was one previously issued even if it did not include all the information. Enter information exactly as it was entered on the original return, but enter zeros (0) for all money amounts. Report ALL correct information on a new form. Do not mark corrected box. Prepare a new Form 1096 transmittal form Enter description of correction at bottom of Form 1096 (e.g., Filed to Correct TIN) Provide information requested on Form 1096 File Form 1096 and Copy A of corrected form with IRS Do not include original reporting form Rev. 9/

91 Distribution Reporting on Form 1099-R One Form Correction (Incorrect Distribution Amount) In this example, a Form 1099-R was generated in the name of Brandon Cattell; however, although the actual distribution amount for 2016 was $1,200.00, a distribution of $1,000 was reported. The part of the Form 1099-R that is incorrect is circled below for illustrative purposes only. Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Brandon Cattell 123 Rodeo Way Bronco TX X ORIGINAL Rev. 9/

92 Distribution Reporting on Form 1099-R To correct the error, simply create another Form 1099-R, mark the corrected box, report all the information as it was on the first Form 1099-R, but correct the amount in box 1 and submit to the IRS. If there are fewer than 250 corrections of the same form are being submitted to the IRS, the correction may be done on paper and transmitted with Form However, if 250 or more corrections of the same form are being submitted to the IRS, the corrections must be submitted electronically. X Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Brandon Cattell 123 Rodeo Way Bronco TX X CORRECTION Rev. 9/

93 Distribution Reporting on Form 1099-R If Distributed in 2017 it would be done this way. Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Brandon Cattell 123 Rodeo Way Bronco TX X ORIGINAL Rev. 9/

94 Distribution Reporting on Form 1099-R To correct the error, simply create another Form 1099-R, mark the corrected box, report all the information as it was on the first Form 1099-R, but correct the amount in box 1 and box 2a and submit to the IRS. If there are fewer than 250 corrections of the same form are being submitted to the IRS, the correction may be done on paper and transmitted with Form However, if 250 or more corrections of the same form are being submitted to To correct the error, simply create another Form 1099-R, mark the corrected box, report all the information as it was on the first Form 1099-R, but correct the amount in box 1 and submit to the IRS. If there are fewer than 250 corrections of the same form are being submitted to the IRS, the correction may be done on paper and transmitted with Form However, if 250 or more corrections of the same form are being submitted to the IRS, the corrections must be submitted electronically. X Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Brandon Cattell 123 Rodeo Way Bronco TX X CORRECTION Rev. 9/

95 Distribution Reporting on Form 1099-R Two Form Correction (Incorrect Participant TIN) In this example, a Form 1099-R was generated in the name of Brandon Cattell; however, it was reported with the wrong tax identification number (TIN) ( instead of ). The incorrect number is circled below for illustrative purposes only. Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA X Brandon Cattell 123 Rodeo Way Bronco TX X ORIGINAL Rev. 9/

96 Distribution Reporting on Form 1099-R With a two form correction, the first step is to undo what was reported improperly. To do this, everything is reported the way it was originally, but the corrected box is marked and all dollar amounts are replaced with zeros as shown below. X Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA X Brandon Cattell 123 Rodeo Way Bronco TX X CORRECTION #1 Rev. 9/

97 Distribution Reporting on Form 1099-R The final step in a two form correction is to create a new Form 1099-R with the proper information on it. This means correcting the participant s TIN to and reporting the information that was reported correctly on the original again to the IRS. If there are fewer than 250 corrections of the same form are being submitted to the IRS, the correction may be done on paper and transmitted with Form However, if 250 or more corrections of the same form are being submitted to the IRS, the corrections must be submitted electronically. Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA X Brandon Cattell 123 Rodeo Way Bronco TX X CORRECTION #2 Note: No X in corrected box unless a 1099-R was previously issued under this SSN. Rev. 9/

98 Distribution Reporting on Form 1099-R If Distributed in 2017 Two Form Correction (Incorrect Participant TIN) In this example, a Form 1099-R was generated in the name of Brandon Cattell; however, it was reported with the wrong tax identification number (TIN) ( instead of ). The incorrect number is circled below for illustrative purposes only. Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA X Brandon Cattell 123 Rodeo Way Bronco TX X ORIGINAL Rev. 9/

99 Distribution Reporting on Form 1099-R With a two form correction, the first step is to undo what was reported improperly. To do this, everything is reported the way it was originally, but the corrected box is marked and all dollar amounts are replaced with zeros as shown below. X Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA X Brandon Cattell 123 Rodeo Way Bronco TX X CORRECTION #1 Rev. 9/

100 Distribution Reporting on Form 1099-R The final step in a two form correction is to create a new Form 1099-R with the proper information on it. This means correcting the participant s TIN to and reporting the information that was reported correctly on the original again to the IRS. If there are fewer than 250 corrections of the same form are being submitted to the IRS, the correction may be done on paper and transmitted with Form However, if 250 or more corrections of the same form are being submitted to the IRS, the corrections must be submitted electronically. Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA X Brandon Cattell 123 Rodeo Way Bronco TX X CORRECTION #2 Note: No X in corrected box unless a 1099-R was previously issued under this SSN. Rev. 9/

101 Distribution Reporting on Form 1099-R Penalties for Failing to Timely Provide Form 1099-R to the IRS and/or the IRA Holder These penalties will be adjusted for inflation every five years. They apply to both paper and electronic filers. Rev. 9/

102 Distribution Reporting on Form 1099-R Questions and Answers Q-1. Does an IRA Custodian/Trustee need to verify whether a Roth IRA distribution meets the five year rule? A-1. No, an IRA Custodian/Trustee is only required to report the distribution based on the known time the Roth IRA was at their financial institution. However, they are allowed to ask for verifiable proof from the Roth IRA Holder so that a qualified distribution could be reported, which would probably be beneficial and preferable to the IRA Holder. Q-2. How are distributions from Inherited Roth IRAs reported and taxed? A-2. A distribution to a beneficiary from an Inherited Roth IRA will be coded on the Form 1099-R with a code T if the Decedent s IRA and the Beneficiary s Inherited IRA has not been established for a combined five years. The taxation of this distribution will depend on the basis of the Inherited IRA. The taxation is the beneficiary s responsibility. If the Decedent s Roth IRA and the Beneficiary s Inherited Roth IRA has been established for a combined five years or more IRS Code Q is used. Again the taxation is based on the basis of the inherited Roth IRA and is the beneficiary s responsibility, NOT the IRA Custodian/Trustee s responsibility to determine. Note: There is no provision to code these Q4 or T4. Q-3. An IRA Holder wants a Roth Distribution to be used for the First-Time-Homebuyer exception. How is it reported? A-3. If the five year rule has been satisfied Code Q is used. If it can not be verified Code J is used. The IRA Holder then can verify the five-year rule on his personal tax return. Q-4 If an IRA Custodian/Trustee reporting error is discovered, how far back must it be to NOT have to correct it? A-4 There is NO TIME LIMIT. All reporting errors must be corrected regardless of how old the errors are. Q-5 We converted to new software and there is no provision for entering IRA data into Form 1099-R, Box 11, 1st year of designated Roth contribution. How can we account for the Roth IRA beginning year for the Qualified Distribution determination? A-5 Box 11 of Form 1099-R is NOT used for regular Roth IRA reporting. It is only used for reporting Designated Roth Accounts which are Roth IRAs IN QRPs. Do NOT use Box 11 when reporting regular Roth IRAs. Rev. 9/

103 Distribution Reporting on Form 1099-R Q-6 A QRP Administrator has informed us that a recent QRP Direct Rollover to our customer s IRA included an overpayment. They are demanding we immediately send the amount back to the QRP. What should we do? A-6 First the IRA Holder should be informed by you. Second, DO NOT send the money directly back to the QRP. Any such distribution of the excess amount should be dealt with and documented like any other IRA distribution. It should be distributed to the IRA Holder after his written request. We do not even recommend making the check out to the IRA Holder and the QRP. After the amount is distributed to the IRA Holder, it s up to the QRP Administrator and the IRA Holder to coordinate any pay back. The rollover is reported just as you received it. Q-7 We accepted a rollover and later discovered the IRA Holder was over 70 1 /2. The RMD not yet taken was $700. What do we do? A-7 First the rollover amount must be reported or corrected as $700 less than the original total. The RMD amount is reported as a regular IRA contribution. Then that RMD amount must be corrected as an excess contribution. Please refer to Chapter 12. Q-8 Our IRA Holder asked for a $1,200 RMD in two checks. One made out to her ($800) and one made out to her church ($400.) We mistakenly wrote the check from her Roth IRA instead of her Traditional IRA. Can we correct this? A-8 First whether the IRA Holder asked for the distribution from the Roth IRA or not, if the IRA Custodian/Trustee knows it is intended for an RMD, it should not have been distributed from the Roth IRA! So let s assume it is an error caused by the IRA Custodian/Trustee. It can be corrected by INTERNALLY transferring funds and earnings from the Traditional IRA to the Roth IRA. Then, the Roth IRA Form 1099-R must be corrected to zero ($0.00) and a Traditional IRA Form 1099-R must be created showing the actual distribution. CAUTION: If the IRA Holder actually asked for the funds from the Roth IRA, the IRS could say that the transactions stay the way they are and the RMD was NOT satisfied. This could end up being a customer service problem for the IRA Custodian/Trustee because it should not have been allowed as an RMD from a Roth IRA. Q-9 When we get a phone call or to distribute funds from a Traditional IRA, do we need documentation for the distribution as well as the withholding election? A-9 Yes, documentation is needed in all cases. The IRS has not given any written instructions for accepting electronic or phone requests/signatures for required forms like the W-4P for withholding of Federal Withholding Tax. In addition JM Consultants recommends that IRA Custodians and Trustees always document all IRA transactions. Even if done after-the-fact in the case of phone calls and s, the transactions should always be documented. Remember it is the responsibility of the IRA Custodian/Trustee to be able to prove all transactions. Rev. 9/

104 Distribution Reporting on Form 1099-R Rev. 9/

105 Withholding Notices and Systematic Distributions CHAPTER 4: Withholding Notices and Systematic Distributions There are four responsibilities financial organizations have with respect to administering Federal income tax withholding on IRA distributions. The first is to maintain the records necessary to properly report withholding to the IRS, the second is to timely provide notice to recipients regarding their right to waive or change their Federal withholding on IRA distributions (Form W-4P), the third is to withhold the proper amount of Federal income tax from each IRA distribution, and the fourth is to remit and report withheld funds to the IRS in a timely fashion. The table below summarizes a financial organization s withholding responsibilities, as well as the penalty associated with the failure to fulfill each responsibility. % Remitting and Reporting Withheld Amounts Financial organizations must now remit Federal income tax withheld from IRA distributions to the IRS under the Electronic Federal Tax Payment System (EFTPS). They may no longer send withheld amounts to a federal depository using IRS Form 8109, Federal Tax Deposit Coupon. Generally, the amount of nonpayroll tax withheld two years prior to the current year determines whether a financial organization must remit withheld income tax amounts annually, monthly, semiweekly, or daily. Businesses that pay $200,000 or less in Federal tax payments may use From 945 to report withheld amounts, while businesses that pay more than $200,000 in Federal tax payments must file electronically through EFTPS two years after the first year their obligations exceed $200,000 (e.g., If payments exceeded $200,000 first in 2015, EFTPS would be mandatory in 2017.) Dollar limitations can be changed so IRA Custodians/Trustees should always make sure to check the most recent rules, regulations and procedures. Rev. 9/

106 Withholding Notices and Systematic Distributions Rev. 9/

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110 Withholding Notices and Systematic Distributions Federal Withholding Notice Requirements Typically, IRA Custodians/Trustees must provide a Federal withholding notice to IRA Holders and Beneficiaries explaining the Federal income tax withholding options and requirements within a reasonable amount of time prior to processing the IRA distribution. This is typically done by providing a copy of IRS Form W-4P or a valid substitute form. A recipient of an IRA distribution may elect Federal income tax withholding of 10 percent or greater, or waive the withholding requirement completely. It is not clear if an IRA Holder/Beneficiary is allowed to request less than 10%. When IRA Holders/Beneficiaries take distributions on demand, satisfying the withholding notice requirement is very straightforward because good distribution forms generally contain a withholding notice and election. Fulfilling the withholding notice requirements becomes more of a challenge when IRA Holders/Beneficiaries set up systematic withdrawals, because they will not be coming in each time they receive a distribution from their IRA. When customers take systematic withdrawals, such as scheduled RMDs, substantially equal periodic payments, or monthly or quarterly distributions, the rules for satisfying the withholding notification requirement depends on how frequently the automatic distributions are taken. The following table summarizes the withholding notice rules based on frequency of distribution. NOTE: The IRS Form W-4P can be used for the required notice, but it is generally confusing to those IRA Holders and Beneficiaries who have already completed a withholding election. Many form vendors, however, have a Federal Withholding Notice Form, that is better to use. NOTE: When in doubt as to what should be in the Withholding Notice refer to the IRS Form W-4P, section titled Withholding From Pension and Annuities. Rev. 9/

111 Withholding Notices and Systematic Distributions 1 Notice should be provided a reasonable amount of time prior to each scheduled distribution in order for the IRA Holder/Beneficiary to change his or her election (at least 30 days prior seems to be a common interpretation of this rule). In addition, the notice may not be given any sooner than six months before the distribution. 2 The withholding notice does not have to be signed and sent back to the financial organization unless the IRA Holder/Beneficiary wants to change his or her withholding election that is on file. Rev. 9/

112 Withholding Notices and Systematic Distributions Special Federal Withholding Rules Mandatory 10 Percent Withholding for U.S. Citizens and Resident Aliens A financial institution must withhold Federal income tax at a mandatory rate of 10 percent if an IRA distribution recipient is a U.S. citizen or resident alien and fails to: Make a withholding election by the time of the distribution, Provide a residence address inside the United States, or Provide a valid taxpayer identification number. In that case, the IRA Holder/Beneficiary can NOT elect to not have withholding. IRA Distributions to Nonresident Aliens IRA distributions to nonresident aliens are subject to different Federal income tax withholding rules than distributions to U.S. Citizens and resident aliens (IRC Sec rather than IRC Sec. 3405). Generally distributions to nonresident alien IRA Holders/Beneficiaries are subject to 30 percent Federal income tax withholding, and unlike most distributions to U.S. Citizens and resident aliens, withholding may not be waived at the sole discretion of the IRA Holder/Beneficiaries. However, if the current tax treaty between the U.S. and a nonresident alien IRA Holder s/beneficiary s home country is less than 30 percent, the IRA Holder/Beneficiaries may elect the lower treaty rate. To take advantage of this lower rate, a nonresident alien must provide the IRA Custodian/Trustee with an individual taxpayer identification number (ITIN) and a completed IRS Form W- 8BEN, Certificate of Foreign Status of Beneficial Owner for U.S. Tax Withholding. Financial organizations must file Form 1042-S rather than Form 1099-R to report distributions made directly to nonresident aliens. In addition, Form 1042-T is used instead of Form 1096 and Form 1042 is used instead of Form 945. The IRA Custodian/Trustee may require the 30% withholding as part of their standard procedures, foregoing the extra work and documentation involved with the tax treaty. In that case, the IRA Holder/Beneficiary can file with the IRS for any refund due. (This is the easiest procedure to administer.) Note: Although most financial organizations rarely handle such distributions, it should be mentioned that nonresident aliens working through a qualified intermediary use Form W-8IMY, which will detail which withholding reporting responsibilities that will be assumed by the intermediary and which will remain the responsibility of your financial organization. These types of distributions also use different transaction forms and procedures for processing. Rev. 9/

113 Withholding Notices and Systematic Distributions Calculating Federal Withholding Sometimes the most difficult part of Federal Withholding is the actual calculation of the correct amount. Here are some examples. Example 1 This is the easiest. The IRA Holder asks for a distribution of $1,500 and wants 10% Federal Withholding. You simply calculate: $1,500 X.10 (10%) = $150 $150 is the amount withheld, netting $1,350 to the IRA Holder. Example 2 The IRA Holder again requests a distribution of $1,500, again requests 10% Federal Withholding, however he wants his net distribution to be $1,500. You must calculate in this manner: $1,500 X.90 (100% - 10%) = $1, $1, is the Gross Distribution, $ is the Federal Withholding, and the Net Distribution is $1,500. Example 3 The IRA Holder wants a distribution with Federal Withholding of $1,500 and wants that to be 15% of his distribution. You must calculate in this manner: $1, (15%) = $10,000 $10,000 is the Gross Distribution, $1,500 is the Federal Withholding, and the net to the IRA Holder is $8,500. IRS Form 945 follows. Believe it or not, the 2016 version was unavailable from the IRS website as of this publication. So the 2015 version is the current available. NOTE: The 2016 version of Form 945 follows. It is the most current version available at the time of publication. The DRAFT 2017 Version is also included but it can be changed by the IRS. Rev. 9/

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122 Withholding Notices and Systematic Distributions Caution: DRAFT NOT FOR FILING Rev. 9/

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125 Required Minimum Distributions CHAPTER 5: Required Minimum Distributions (age 70 1 /2 or Older) Required Minimum Distributions from Traditional, SEP, and SIMPLE IRAs Formula for Calculating RMDs Required minimum distributions (RMDs) are minimum amounts that must be calculated and distributed from a Traditional, SEP, and SIMPLE IRA starting with the year a person first turns 70 1 /2. To calculate an RMD for a calendar year, you must divide the prior year end balance by the life expectancy of the IRA Holder, which is based on the age the IRA Holder attains in the year for which the distribution is required, as shown below. 12/31 IRA Balance for Prior Year Life Expectancy = RMD Amount Required Adjustments to the Prior Year End Balance Sometimes pending transactions that are not completed by the end of a calendar year, must be added to the year end balance when calculating RMDs. Examples of amounts that must be added to a prior year end balance for RMD calculation purposes only include: Rollover amounts that were not reflected in the prior year-end balance of another IRA or a Qualified Retirement Plan that were distributed in the prior year but received after the end of the year. Amounts recharacterized to a Traditional IRA should be added to the year end balance for the year the original Roth contribution or Roth conversion was made if they are recharacterized after the prior year end balance was determined. Outstanding transfers (transfers that commence before the year-end balance is calculated for sending IRA, and that are not redeposited until after the prior year-end balance was calculated for the receiving IRA.) Rollover Example: A plan participant who had not yet reached his or her required beginning date in 2016 but would reach her RBD in 2017 in a qualified retirement plan takes a distribution from her qualified retirement plan on December 20, 2016 but does not complete a rollover to an IRA until January 3, An RMD must be calculated for 2017, because the rollover was outstanding (i.e., it was in transit and not reflected in the balance of any plan). It must be added back to the December 31, 2016 year end balance, for the 2017 RMD calculation purposes only, for the IRA that receives the rollover contribution. NOTE: If attaining age 70 1 /2 and still making carry-back IRA contributions for the prior year, no adjustment of the December 31 balance is needed. Rev. 9/

126 Required Minimum Distributions Recharacterization Example: A Roth contribution is made in 2016 (the last year the IRA Holder was eligible to make a Traditional IRA contribution), but later recharacterized the Roth contribution to a Traditional IRA in 2017 for The amount recharacterized should be added to the 2016 year end balance for the 2017 RMD calculation purposes only, for the Traditional IRA because it should be treated as if it had been made there in the first place for RMD calculation purposes. Transfer Example: An IRA Holder who is subject to RMDs transfers assets from his IRA on December 25, 2016, and these assets are not deposited in the receiving IRA until January 3, An RMD must be calculated for 2017 based on the December 31, 2016 IRA balance, but because this transfer was not deposited in the receiving IRA until after December 31, it must be added back to the December 31, 2016 IRA balance, for RMD calculation purposes only, for that IRA for the 2017 RMD calculation purposes. NOTE 1: If a person subject to the RMD requirements takes out more than he or she has to for a year, they do not get to reduce their RMD amount for the following year, although taking a larger distribution will lower the prior year end balance for the following year, so for all practical purposes, their RMD will be smaller than it would have been had they not taken more than was needed. Also, prior year contributions that are made in the 70 1 /2 year between January 1 and April 15 are NOT added back to the prior year-end balance for calculating RMDs. If this situation occurs and the IRA Holder realizes it within sixty days of the distribution, the amount in excess of the RMD can be rolled over back into an IRA. However, remember that starting in 2015, the IRA Holder is only allowed ONE ROLLOVER PER PERSON, PER YEAR regardless of how many IRAs the individual has! NOTE 2: When the year end balance is adjusted, it is adjusted for the RMD calculation only. The actual reported year-end balance, the December 31 FMV, IS NOT ADJUSTED. Life Expectancy Table Most IRA Holders will use the Uniform Lifetime Table (Table III), found in Publication 590-B and the appendix of this manual, to look up the life expectancy factor they must use to calculate their current year RMD. To find their life expectancy, all they must do is find the age they will attain in the year for which the RMD is being calculated and select the corresponding distribution period. For example, the distribution period for a person who is turning 70 is 27.4 years. Although the Uniform Lifetime Table only requires a person to look up his or her own age, the life expectancy factor it provides is actually based on a joint life expectancy of a person the age of the IRA holder and a beneficiary 10 years younger. The Uniform Lifetime Table may be used to determine life expectancy for any IRA Holder during his or her lifetime, whether he or she has named a beneficiary or not. Rev. 9/

127 Required Minimum Distributions Special Exception for IRA Holders with a Sole Primary Spouse Beneficiary Who is More Than 10 Years Younger If an IRA Holder has a sole primary spouse beneficiary who is more than 10 years younger, he or she may use the actual joint life expectancy of him or herself, and his or her spouse. To take advantage of this option, the IRA holder should use the Joint Life and Last Survivor Expectancy Table (Table II), found in Publication 590 and the appendix of this manual, and look up his or her age on one side/top of the chart, and the age of his or her spouse on the other side/top of the chart, and follow the corresponding row and column until it intersects to find the actual joint life expectancy for the couple. Marital Status Determination (death, and divorce) In general, a person s spouse for RMD purposes is determined as of January 1 of a distribution year, and changes in marital status due to death or divorce do NOT affect life expectancy calculations until the following year. However, if the IRA Holder changes his or her beneficiary from a spouse who is the sole primary beneficiary and more than 10 years younger after January 1 just for the sake of changing beneficiaries, The IRA Holder can not use the Joint Life Table for that year. Example: John has named Mary, his spouse who is more than 10 years younger than him, as his primary IRA Beneficiary. She is still the sole primary beneficiary on January 1, John takes his 2017 RMD on June 30, On July 15, 2017 John changes his IRA beneficiary to his three children, even though Mary is still alive and they are still married. The 2017 RMD must be refigured using the Uniform Lifetime Expectancy Table. An additional RMD amount may be required to be taken for Rev. 9/

128 Required Minimum Distributions ************************************************************** US Treasury and IRS Issue Important Ruling and Clarification on Federal Definition of Marriage ****************************************************** On August 29, 2013 the US Treasury and the IRS issued Revenue Ruling (Rev. Rul ) clarifying the terms of the 2013 Supreme Court decisions concerning same-sex marriages. In what is described by many experts in the industry as a broader definition than was expected, the clarifications include: Legal marriages between same-sex partners performed in any state of the US, Washington DC, any US Territory or any Foreign Country will be recognized for all Federal tax purposes and other Federal administrative purposes where marriage is a factor. These marriages will be recognized by the Federal Government regardless of the state of residency. (It was first thought that these same-sex marriages would only be recognized by the Federal Government if the individuals resided in a state allowing such marriages, known as the state-of-domicile rule.) The US Treasury and the IRS explained that they thought such a ruling (residency requirement) would be too difficult for the employers to administer with multiple state offices, employees living in different states, employees moving from state to state, etc. (It is interesting to note however that the Department of Labor enforces a residency requirement for the administration of the Family and Medical Leave Act (FMLA) which also greatly affects the same employers. Other agencies throughout the Federal Government also use the residency requirement so one would hope that there will be further clarification on this issue.) Where spousal rules apply, that means contribution rules for IRAs and HSAs are affected. It also means that some Required Minimum Distribution (RMD) calculation rules are also affected. Rules for 401(k)s are also affected. Any area of IRAs, HSAs, CESAs and 401(k)s that uses marriage/spouse as a determining factor in administration must now follow this new definition of marriage. Although the official effective date was September 16, 2013, there are even provisions in this ruling that allows those affected by the previous rulings/definition to amend their previous tax returns. Those wanting to do so should seek their tax and legal counsel because there are special rules and limitations that must be followed. This Revenue Ruling, however, does NOT apply to registered domestic partnerships, civil unions or similar formal, legal relationships between same-sex partners, under any state law. However, it appears those couples could go to a state that does allow same-sex marriages and then be eligible for any Federal marriage/spousal rules in their state of residency. They would NOT be eligible for the amending of previous tax returns however. It should be noted that this just applies to the Federal definition of marriage and spouse. How individual states rule will be determined by state law. Rev. 9/

129 Required Minimum Distributions There were a number of unanswered questions. Recently US Attorney General, Eric Holder, clarified the government s position. On February 8, 2014, Mr. Holder said that under this policy, same-sex couples will enjoy these privileges even in states that do not recognize such marriages. All Federal departments must now abide by this ruling in all matters. (There was some confusion about this before this announcement.) So, this means that any tax, IRA or 401k related matter will abide by these marriages as long as the marriage was performed in a state allowing them. They do NOT have to be residents of that state. They can live in any state as long as they were married in a state allowing such marriages. Be assured, JM Consultants will keep you informed of, what is sure to be, further clarifications. NOTE: The recent US Supreme Court decision concerning same sex marriages did NOT affect any Federal references or procedures. They only affected state issues. Special Rules Related to RMDs RMDs May Be Aggregated and Taken from One or More IRAs If an individual has multiple IRAs, it doesn t matter which IRA he or she chooses to take RMDs from as long as the total amount that must be taken from all his or her Traditional, SEP, and SIMPLE IRAs is taken from one or more of his or her IRAs. It is recommended to ask customers who have decided to aggregate at another financial organization to complete an RMD waiver form. If an IRA Holder has chosen to aggregate his or her RMDs and dies BEFORE taking the distribution, the inheriting beneficiaries are not required to abide by that aggregation. They may take their RMDs from any one or multiple (Inherited) IRAs they choose. IMPORTANT: When an IRA Holder with multiple IRAs dies, it is the beneficiaries responsibility to inform the Inherited IRA Custodians/Trustees if the RMD was taken prior to death. It is unclear if an RMD can be taken by one beneficiary to cover the RMDs of the other beneficiaries. Conservatively, the answer would be that each Beneficiary is responsible for their own pro rata share of the decedent s RMD. NOTE: IRA RMDs and QRP RMDs CANNOT BE AGGREGATED! IRA RMDS must be taken from IRAs and QRP RMDs must be taken from the QRP they are calculated for. QRP RMDs cannot even be aggregated with other QRPs. Rev. 9/

130 Required Minimum Distributions RMD Waiver: General points affecting this procedure 1. Most IRA forms vendors have a form for this. Some are worded to be completed each year. Others can be completed as open ended. 2. Upon death, the form is null and void. This means the beneficiary must still remove the decedent s RMD in the year of death from each account unless the beneficiary fills out a waiver form. 3. A beneficiary is also allowed to aggregate Inherited IRA RMDs as long as they are from the same deceased accountholder. The aggregation rule applies to all Inherited IRA RMDs starting with the remaining RMD of the decedent. The RMDs must also be for the same decedent. 4. The custodian does not have to send out a withholding reminder notice to an accountholder who has completed a waiver they have no scheduled distribution from that custodian. They could send one out however. JM Consultants Traditional IRA RMDs 5. An accountholder could take a distribution that will not make the waiver form null and void for future years. Suggestion should re-verify waiver. 6. An accountholder can always change or cancel this waiver form. 7. The accountholder still must be sent the RMD reminder by January 31 each year. 8. A beneficiary can aggregate RMDs from multiple inherited IRAs as long as they are from the same decedent. If the RMD is not being taken by your Inherited IRA, the IRA Custodian/ Trustee should ask for verification that the RMD is being taken elsewhere. Although you may aggregate IRA RMDs, you may NOT aggregate IRA RMDs with qualified retirement plan (QRP) RMDs. Each QRP must separately satisfy the RMD requirements and IRA RMDs cannot be reduced by taking more from a QRP, or vice versa. RMDs Are Not Eligible to be Rolled Over If a customer takes a distribution from an IRA before satisfying the RMD requirements for the year, the first money distributed is deemed to satisfy the RMD distribution and is not eligible to be rolled over. If a customer wants to move assets and retain his or her option for taking the distribution at the end of the year, he or she must request a trustee-to-trustee transfer of the assets. However, if they have taken more than their RMD, the amount in excess of the RMD can be rolled over under the regular rollover rules and limitations. Rev. 9/

131 Required Minimum Distributions QUALIFIED CHARITABLE DISTRIBUTIONS MADE PERMANENT JANUARY 1, 2015 All future QCDs will probably follow the same requirements and limitations as previous years. Under this distribution option, persons 70 1 /2 or older have had the ability to exclude up to $100,000 of their RMD from income if they transfer their RMD distribution directly to a qualified charity. Most vendors have a charitable distribution form, but since these transfers must be direct, financial organizations should request a letter from the receiving charity on the charity s letterhead that includes the charity s: 1. Full legal name 2. Address (both street and PO Box, if applicable) 3. Tax ID number 4. Contact person, as well as information on how to reach that person, and an authorizing signature. Those who are required to take RMDs and who would prefer to not take them for tax reasons, may want to consider using a qualified charitable distribution to satisfy all or part of their RMD obligation. These transactions are reported like normal distributions on Form 1099-R, and are treated much like tax-free rollovers for tax purposes (i.e., the IRA Holder handles the tax write-off on his or her annual Federal income tax filing, and if a person is married, both the person and his or her spouse may make a charitable distribution of up to $100,000 that is eligible for this favorable tax treatment). Note: An amount in excess of the RMD is allowed to be sent to the qualified charity, up to $100,000 per year. This distribution is NOT limited to just the RMD amount. In addition, unlike the RMD rules, the IRA Holder must actually be 70 1 /2. So, for instance, if the IRA Holder did not attain age 70 1 /2 until December 1, 2014, a QCD could NOT have been transacted until December 1, 2014! For additional QCD discussion, please refer to Chapter 3. Rev. 9/

132 Required Minimum Distributions RMD Notices Financial organizations are required to provide notices to IRA Holders, who are required to take RMDs, by January 31 of the year for which a distribution is required. This statement must be sent to IRA Holders who are alive as of December 31, and who are required to take an RMD for the coming year, if a financial organization held IRA assets in the name of the IRA Holder as of December 31 of the prior year. The first year that a person becomes subject to RMDs, there should be special verbiage informing them that they have until April 1 of the following year to satisfy the RMD requirement. This RMD notice must also be reported to the IRS on Form 5498 by May 31 of each year, which means the IRA Holder will often receive a second RMD notice during the year. Organizations may either provide IRA Holders with an RMD calculation based on their prior year-end balance and the uniform lifetime table factor for the IRA Holder s attained age in the distribution year (Alternative one) or offer to provide a calculation at no cost upon request (Alternative two). See the following table for more details about each of these methods. A financial institution does not have to use the same method for all customers, but instead may satisfy the requirement by using Alternative One with some customers and Alternative Two with others. If your organization uses a letter to satisfy the RMD notice requirement, you may state in your letter what your organization s default action will be if you do not hear from the customer by a certain date. If a customer does not respond to your letter, further follow up on the part of your organization is discretionary, not mandatory, but recommended. A sample of an RMD notice letter follows at the end of this chapter. Also, in the event that a spouse beneficiary treats an IRA as his or her own subsequent to an IRA Holder s death, any future RMD reporting will be based on whether the spouse beneficiary (now IRA Holder) is required to take RMDs. However, if the spouse beneficiary does not treat the IRA as his or her own, there is no current requirement for reporting beneficiary RMDs, so RMD reporting will cease from the Inherited IRA in the year following the IRA Holder s death. Rev. 9/

133 Required Minimum Distributions 1 /2 1 /2 Although not required, JM Consultants recommends sending some type of reminder/notice to IRA Beneficiaries who have an RMD. Financial Institution Policies Regarding RMDs Although it is the responsibility of the IRA Holder/Beneficiary to take their RMDs each year, because of the large penalties associated with failing to take an RMD, many financial organizations take an active role in reminding them of the need to satisfy the RMD requirements each year. In fact, some financial organizations actually go as far as calculating and distributing, if properly disclosed and/or authorized, an amount equal to the RMD if a customer does not contact them with specific instructions. When creating RMD policies, a financial organization should always balance what s most efficient for the organization with what its customers prefer in terms of customer service. You should refer to your financial organization s policies for specific instructions on how to handle customers that are subject to RMDs, and if no policies are in place, it would be advantageous to develop some so that RMDs are handled in a consistent and predictable way. The policies and procedures must be properly disclosed. Also, be sure to read your IRA Plan Agreement and Disclosure Statement for any applicable defaults. Rev. 9/

134 Required Minimum Distributions Deadline for Taking RMDs The first RMD is due by April 1 following the year a person attains age 70 1 /2, and by December 31 for each following distribution year. This means if a person delays taking his or her first distribution until the year following the 70 1 /2 year, he or she will have to take two distributions for the that following year (i.e., one for the 70 1 /2 year and one for the current year). Note: If there is no year-end balance, then no RMD is required for the subsequent year. Example: An IRA Holder turns 70 1 /2 in 2017 and opens an IRA in March 2017 for 2016 (this is the last Traditional IRA contribution the IRA Holder will be able to make). When the IRA Holder calculates his 2017 RMD, there will be no balance for December 31, 2016, so no RMD will be due for However, assuming the IRA Holder does not take a full distribution during 2017, there will be a balance on December 31, 2017, so an RMD will be due for Example: If a person dies after attaining age 70 1 /2 but before reaching April 1 of the following year, he or she is treated as a person who has died before the required beginning date, which can have an impact on the distribution options available to his or her beneficiaries (see Chapter 7, Beneficiary RMDs, for more details). Also, since RMDs have not yet commenced, no year of death RMD must be taken by the beneficiary. Example: The IRA Holder attains age 70 1 /2 in He decides to take his first required minimum on April 1, 2017, which is for the 2016 year. Therefore he must also take the RMD for 2017 by December 31, That results in two taxable distributions in the same tax year. The also IRA Holder should contact his tax counsel BEFORE deciding on these transactions. What Age to Use to Determine Life Expectancy for the 70 1 /2 Year Because the year a person turns 70 1 /2 is six months after he or she turns 70, some people will turn 70 years old their first distribution year and others will turn 71 years old. The simplest way to determine whether a person will turn 70 or 71 in his or her first distribution year is to look at the month they were born in. See the table below. 1 /2 1 /2 Rev. 9/

135 Required Minimum Distributions Penalties for Not Taking RMDs It is very important to take RMDs in a timely fashion, because a 50 percent IRS penalty applies to any RMD that is not taken by the applicable deadline. If an IRA Holder (or Beneficiary) misses an RMD, and is not eligible for a waiver of the penalty, they pay the penalty by filing Form 5329 with their personal taxes. The penalty is not reported or collected by the IRA Custodian/Trustee. The penalty must be shown and paid on the personal tax return for the year the RMD was missed, NOT the year it was finally taken. Example 1: The IRA Holder did not take his RMD for He did not discover this until November 14, He must, most likely, amend his 2016 personal tax return and show the penalty is due for 2016 on the 2016 Form Example 2: The IRA Holder did not take his RMD for He did not discover this until November 14, 2018!! He must, most likely, amend his 2016 personal tax return and show the penalty is due for 2016 on the 2016 Form Withholding Federal Income tax withholding requirements apply to all distributions from a Traditional, SEP, and SIMPLE IRA, including RMDs. If a person taking RMDs does not fill out a Federal withholding election to the contrary, 10 percent must be withheld from all RMDs taken from the IRA. See Chapter 4. Withholding Notices and Systematic Distributions, for more information on withholding. RMD Reporting All RMD distributions are reported on Form 1099-R as Normal distributions using IRS Code 7. The amount in Box 1 and 2a are the same. There is no special reporting for RMDs. NOTE: The 50% over accumulation penalty for NOT taking the RMD timely is reported on the Form 5329 for the year the under-distribution occurred. Example: The IRA Holder turned 70 1 /2 in He did NOT take his RMD by April 1, In fact he did not take any RMD until A 2016 Form 5329 must be filed showing the under-distributed RMD for 2016 AND a 2017 Form 5329 must be filed reporting the under-distributed RMD for The IRA Holder s personal tax returns will likely need to be amended. Rev. 9/

136 Required Minimum Distributions [SAMPLE RMD NOTICE] January, 2017 [Name] [Address] IMPORTANT TAX INFORMATION PLEASE READ AND RESPOND The IRS requires all Traditional, SEP, and SIMPLE IRA Holders to begin taking minimum distributions from their IRAs starting in the year they turn age 70 1 /2. These required minimum distributions, or RMDs, generally must be taken each year by December 31; however, the first RMD may be delayed until April 1 of the year following the 70 1 /2 year. In addition to providing you with this notice of your RMD requirement, we also will be reporting your RMD status to the IRS on Form 5498, as part of our legal duty as custodian/trustee of your IRA. Your RMD Deadline and Amount According to our records, your date of birth is [date of birth], which means you will be 70 1 /2 or older this year and are required to take an RMD by December 31, 2016 based on the fair market value of your account on December 31, 2015, divided by your life expectancy, which will be determined based on the age you attain this year. If you turned 70 1 /2 this year, you may delay your first RMD until April 1, However, if you delay your first distribution until next year, you will be required to take two distributions in 2017 (one for 2016 and one for 2017). The first year distribution is the only one that may be delayed until the following year. All subsequent distributions must be taken as of December 31 of the year for which they are due. [If you would like us to calculate the value of your RMD for you, please return the attached election form as soon as possible.] or [Based on a recorded FMV of for Account # as of December 31, 2015, the RMD required for this Traditional IRA for 2016 is [RMD amount].] To satisfy the requirement, you must either remove the RMD amount (or more) from the referenced IRA, or remove the amount from another Traditional, SEP, or SIMPLE IRA you own by the applicable deadline. Consequences for Failing to Satisfy an RMD It is your responsibility to satisfy the RMD associated with this Traditional IRA by the applicable deadline. If you do not, you will be subject to a IRS penalty equal to 50 percent of the annual RMD amount. Making Your RMD Election Please let us know how you intend to satisfy the RMD requirement for 2016 by filling out the attached election form and returning it to us as soon as possible. If we do not hear from you by [date], we will assume you have decided to take your RMD from another IRA. If you have any questions, please do not hesitate to call [Name] at [Phone Number] [hours and days available to take calls]. Rev. 9/

137 Required Minimum Distributions 2017 RMD ELECTION FORM January, 2017 [Name] [Address] Please choose from one of the following RMD elections: I will satisfy my RMD requirement from another IRA. By signing below, I agree to take sole responsibility for receiving my RMD amount from the other plan. I will satisfy my RMD requirement from this IRA by taking distributions throughout the year and I will notify you as I am ready to take them. I performed my own RMD calculation and would like you to distribute (amount) by (date) I performed my own RMD calculation and would like you to distribute (amount) (monthly, quarterly) by (date). (If RMD is calculated in letter) Please distribute the calculated RMD amount by (date). (If no RMD is calculated in letter) Please calculate my RMD amount for me and mail it to me at the address listed above. I agree to indemnify and hold harmless [Financial Organization] as Custodian/Trustee of my IRA from any adverse tax consequences or other losses that may result from my decision to take my RMD in this manner. [Name] [Account #] [Date] Rev. 9/

138 Required Minimum Distributions Questions and Answers Q-1 A Direct Conversion from a 403(b) to a Traditional IRA was made in January In April 2017 it was discovered that the 2016 RMD was NOT taken. What needs to be done? A-1 The 2016 RMD is now considered a regular traditional IRA contribution at the time of the Direct Conversion from the 403b. The must be corrected to show that amount as a contribution, subtracting that amount from the Conversion amount. If it is a possible excess contribution, as is likely, it is reported by the IRA Holder as such on his 2016 personal tax return, like any other excess until corrected. When it is paid out it is reported by the IRA Holder and the IRA Custodian/Trustee like any other RMD distribution. Q-2 Our IRA Holder died on April 1, She was scheduled to receive her monthly distribution on April 1. So, the check was already mailed when she died. What do we do about it and the remaining RMD for the three beneficiaries? A-2 The April 1 check must be reported to the three beneficiaries. The funds must be returned from the deceased account and actually given to the beneficiaries. Unless your state states otherwise, the April 1 check is NOT part of the decedent s estate. The remaining RMD must be taken in their prorated share by December 31, Rev. 1/

139 Year of Death Procedures and Reporting CHAPTER 6: Year of Death Procedures and Reporting The First Thing to Do When an IRA Holder Dies Stop All Systematic Payments! Financial organizations often will not find out that an IRA Holder has died until one of the IRA s Beneficiaries calls to inform them of the IRA Holder s death. However, in some cases, a financial organization might learn of the death of an IRA Holder through some other reliable channel. When a financial organization learns of the death of an IRA Holder, the first thing it should do is immediately stop any systematic payments being paid out of the IRA. Once an IRA Holder dies, the IRA automatically becomes the property of the designated beneficiary(ies). When distributions are being automatically paid directly to a checking account, for example, the beneficiary of the checking account may be different than the beneficiary of the IRA. This can make it more difficult to recover these assets once they ve left the IRA, not to mention the reporting issues it creates. Furthermore, beneficiaries are not allowed to roll assets back into an inherited IRA, so these distributions can result in undesired tax consequences. Example 1: An automatic distribution was deposited into the IRA Holder s checking account on August 5, His date of death was July 15, 2016! The IRA Holder s primary beneficiary was his daughter. This distribution MUST BE CORRECTED! Remember, regardless of when discovered, the entire balance of the IRA as of the date of death belongs to the beneficiary, not the decedent or the decedent s estate. Steps to correct: 1. The distribution to the IRA Holder s checking account must be returned to the decedent s IRA. This distribution is cancelled and is not reported to the decedent or the beneficiary. 2. The new balance, with the returned distribution must be transferred to the Inherited IRA for the daughter. 3. Further distributions must now be authorized by the beneficiary. Example 2: Same situation as above but the money that was distributed to the decedent s checking account has been closed and there are no funds in it. This is an example of why the IRA Custodian/Trustee needs to be aware of deaths. If one department knows of a death, like the checking account department in this example, they should inform all other departments, especially the IRA Department. This must be corrected, regardless if the IRA Custodian/Trustee knew of the death or not. Steps to correct: 1. The distribution to the checking account must be returned to the IRA. If it can not or will not be returned, the financial institution likely has a legal problem to contend with. When it is returned this distribution is cancelled and is not reported to the decedent or the beneficiary. 2. The new balance, with the returned distribution must be transferred to the Inherited IRA for the daughter. 3. Further distributions must now be authorized by the beneficiary. It does not make any difference whether the account that the decedent s automatic payment is sent is that of a beneficiary or not. ALL decedent payments must be stopped immediately. All of the funds/assets in the decedent s IRA belongs to the beneficiary(ies) and all distributions must be authorized by the beneficiary(ies). Rev. 9/

140 Year of Death Procedures and Reporting Consequently, it is a good practice to stop all distributions from the IRA as soon as the death of an IRA Holder has been confirmed and IRA assets have been transferred to beneficiary accounts according to the most current beneficiary designation on file. Any post death distributions must be distributed from beneficiary accounts under the beneficiary s social security number or ITIN rather than under the IRA Holder s social security number, and authorized by the beneficiary. What if no beneficiary appears to claim the IRA or make arrangements to take RMDs? The first thing you should do if you are concerned about how to proceed when a beneficiary does not appear to claim an inherited IRA is to refer to the IRA plan document. Often the plan document will stipulate what your organization s options are regarding disposition of an inherited IRA. Often a plan document will list multiple options, such as removing an RMD based on the beneficiary s life expectancy and mailing it to the last address on file, doing nothing, or doing a total distribution and sending it to the last address on file. What your organization ultimately chooses to do should always be in alignment with what is allowed under the plan document. However, if there are multiple options to choose from, it is a private business decision as to which option a financial organization chooses. And whatever option you choose MUST abide with all the IRS rules, regulations and procedures. If the IRA Plan Agreement and disclosure designate multiple options the IRA Custodian or Trustee should have a written policy as to which option is followed. If beneficiary information is complete and up to date, it is generally fairly easy, and recommended to send a letter to beneficiaries on file to remind them that they are the beneficiary on a decedent s account and that an RMD may be due for the year. Although it is not mandatory, some financial organizations prefer to prevent a potential problem by making such an effort rather than ignoring the situation and dealing with an irate beneficiary that realizes too late that they missed the deadline for taking an RMD and are subject to a 50% penalty. Complete and up to date information also makes it easier to issue an automatic RMD check if that is the approach your financial organization chooses to take to such a situation based on options found in the plan document. NOTE: It is the responsibility of the IRA Custodian/Trustee to have sufficient beneficiary information at all times so the proper reporting can be maintained. JM Consultants recommends that beneficiary information be reviewed annually. Rev. 9/

141 Year of Death Procedures and Reporting Beneficiary Information Needed To Establish Beneficiary Accounts and Calculate and Report Minimum Distribution Amounts for Beneficiaries To properly establish beneficiary accounts and calculate and report required minimum distributions for beneficiaries, the following information is needed for all beneficiaries: Name Social Security Number/TIN Date of Birth Address Relationship to IRA Holder Beneficiary status (primary or contingent) Allocation percentage of the IRA if multiple Beneficiaries are named Ideally, the financial organization will have a completed beneficiary designation form on file that has all of the information required; however, if no beneficiary designation is available, it will still be necessary to establish one or more beneficiary accounts. The rules for who should receive the assets in the IRA will be determined by the IRA Plan Agreement and applicable state law. Financial organizations should consult a qualified legal expert when writing procedures for handling the disposition of inherited IRA assets when a completed beneficiary designation is not available. Two Primary Factors Affecting Beneficiary Options: Timing of IRA Holder Death and Beneficiary Relationship to the Deceased IRA Holder Different distribution options are available to beneficiaries based on whether an IRA Holder dies before or after his or her required beginning date. Furthermore, once the timing of the IRA Holder s death has been established, different options are available for deaths before and after the required beginning dates based on the beneficiary s relationship to the IRA Holder. The first table that follows summarizes the beneficiary options available when an IRA Holder dies before his or her required beginning date, and the second table that follows summarizes the beneficiary options available when an IRA Holder dies after his or her required beginning date. Rev. 9/

142 Year of Death Procedures and Reporting Traditional, SEP and SIMPLE IRA Death BEFORE the Required Beginning Date Beneficiary Options 1 These options are available when no beneficiary is named, or a beneficiary that cannot use life expectancy is named such as an estate, a charity, or a nonqualified trust. However, if a trust is named as beneficiary, it is important to refer to the trust document for any additional stipulations. 2 Assets must be completely paid out by the end of the fifth year following the year of death 3 Payouts must begin the later of 12/31 of the year following the year of death or 12/31 of the year the IRA Holder would have attained age 70 1 /2. 4 Payouts must begin by 12/31 of the year following the year of death Under the regulations, if a beneficiary does not make an election regarding the method of distribution they want to use, the default for spouse and nonspouse beneficiaries is single life expectancy, and the five-year rule for non-person beneficiaries. A plan document may impose different defaults, so if a beneficiary fails to make an election by the deadline, the plan document s defaults should be checked and used if they differ from the regulatory defaults. Plan document defaults must call for RMDs at least as great as those per the IRS regulations. Rev. 9/

143 Year of Death Procedures and Reporting Traditional, SEP and SIMPLE IRAs Death ON OR AFTER the Required Beginning Date 1 Single life expectancy is determined each year by referring to the single life expectancy table (Table 1) in Publication 590 based on the age of the sole spouse beneficiary. The first beneficiary distribution is due by 12/31 of the year following the year the IRA Holder died. If the spouse beneficiary dies after beneficiary distributions commence, the single life expectancy payments will switch to nonrecalculated in the year following death. 2 Single life expectancy is determined by obtaining the deceased IRA Holder s single life expectancy from the single life expectancy table (Table 1) in Publication 590 and subtracting one year for every year that has passed since the year of death. The first beneficiary distribution is due by 12/31 of the year following the year the IRA Holder died. 3 Single life expectancy is determined by obtaining the oldest beneficiary s single life expectancy in the year following the year of death from the single life expectancy table (Table 1) in Publication 590 and by subtracting one year for every year that passes from that point forward. The first beneficiary distribution is due by 12/31 of the year following the year the IRA Holder died. 4 If separate accounting is used, each beneficiary may use his or her own life expectancy to calculate how much must be taken each year from his or her inherited portion of the IRA. DEFAULT: Life Expectancy Rev. 9/

144 Year of Death Procedures and Reporting Roth IRA Beneficiary Distribution Options All Dates of Death 1 These options are available when no beneficiary is named, or a beneficiary that cannot use life expectancy is named such as an estate, a charity, or a nonqualified trust. However, if a trust is named as beneficiary, it is important to refer to the trust document for any additional stipulations 2 Assets must be completely paid out by the end of the fifth year following the year of death 3 Payouts must begin the later of 12/31 of the year following the year of death or 12/31 of the year the IRA Holder would have attained age 70 1 /2. 4 This is the only option offered on the IRS Roth IRA model document. This provision must be amended to allow a spouse beneficiary other distribution options. Be sure to check your plan agreement before allowing a spouse beneficiary any options other than treating it as his or her own. 5 Payouts must begin by 12/31 of the year following the year of death Under the regulations, if a beneficiary does not make an election regarding the method of distribution they want to use, the default for spouse and nonspouse beneficiaries is single life expectancy, and the five-year rule for non-person beneficiaries. A plan document may impose different defaults, so if a beneficiary fails to make an election by the deadline, the plan document s defaults should be checked and used if they differ from the regulatory defaults. Plan document defaults must call for RMDs at least as great as those per the IRS regulations. NOTE: All Roth IRA Beneficiaries have these options as listed. There is no required beginning date for the Roth IRA Holder; consequently there is only one set of beneficiary options. Rev. 9/

145 Year of Death Procedures and Reporting Special Rules for Qualified Trust IRA Beneficiaries For IRA purposes there are two types of trusts that act as IRA Beneficiaries, Qualified and Non-Qualified. The previous charts and examples have illustrated how Non-Qualified Trusts are treated and what their options are as beneficiaries. Qualified Trusts have additional options. First, what is a Qualified Trust? A Qualified Trust MUST BE IRREV- OCABLE, at least after the IRA Holder dies. In addition, a Qualified Trust must only have beneficiaries that are people. If a trust beneficiary is another trust, charity, foundation, or any non-person entity it is NOT considered qualified. In addition, a Qualified Trust must meet the following requirements by October 31 of the year after the year of death of the IRA Holder died: * It must be valid under state law * The beneficiaries of the trust must be identifiable in the trust document * All required documentation has been provided. A financial institution is allowed to require receipt of the full trust document A financial institution can require certain other verification Once the IRA Beneficiary is proven to be a Qualified Trust the following rules apply. If the IRA Holder died PRIOR TO his or her Required Beginning Date 1. Five-Year Rule 2. Annual distributions based on single-life expectancy of the oldest beneficiary of the trust, NON RECALCULATED i. The December 31 age is used ONLY IN THE FIRST YEAR AFTER THE YEAR OF DEATH to calculate the beneficiary RMD starting with the year after death ii. The life expectancy factor is reduced by one for each subsequent year 3. Any amount greater than the amount calculated above 4. Allowed to close out the account at any time If the IRA Holder died ON or AFTER his or her Required Beginning Date 1. Five-Year Rule DOES NOT APPLY 2. Annual distributions based on single-life expectancy, of the oldest beneficiary of the trust, NON RECALCULATED i. The December 31 age is used ONLY IN THE FIRST YEAR AFTER THE YEAR OF DEATH to calculate the beneficiary RMD starting with the year after death. ii. The life expectancy factor is reduced by one for each subsequent year iii. Any amount greater than the amount calculated above iv. Allowed to close out the account at any time *****IMPORTANT NOTE***** The beneficiary options, regardless of who the beneficiary is, can be dictated by the IRA Holder. However, they must be no less than a valid calculation per the IRS rules. Rev. 9/

146 Year of Death Procedures and Reporting Example: The IRA Holder names his two children as primary beneficiaries. However he add the direction that they MUST choose the Life Expectancy Method. Consequently they MAY NOT choose any other available option including total distribution. NOTE: The IRA Custodian/Trustee may want to check with their own legal counsel as to the legal language they want on the beneficiary documentation. Special IRS Reporting The procedure for reporting after the death of the IRA Holder was established in 1989 with IRS Rev. Proc There probably are very few IRA or tax procedures that have not changed since This is one of them. The penalties on the IRA Custodian/Trustee for non-compliance with these rules can be severe. Year of Death Reporting Generally for the year of an IRA Holder s death, a financial organization must generate at least two Form 5498s: one for the deceased IRA Holder and one for each beneficiary who has a balance as of the end of the year of death. There are two alternatives for reporting year-of-death fair market values. The first method requires the financial organization to report the fair market value of the deceased IRA Holder s account as of the day of death and the value of the beneficiary s inherited portion as of the end of the year of death. If the beneficiary takes a full distribution before the end of the year, no annual account statement must be provided to the beneficiary nor must a Form 5498 be filed for the beneficiary. However, a year of death fair market value must be reported for the deceased IRA Holder in the year of death regardless of whether the IRA is closed by the end of the reporting year. If a financial institution does not receive notice of the death of an IRA Holder until after they are required to file Form 5498 (May 31 following the reporting year), it does not have to file a corrected Form However, JM Consultants recommends a corrected Form 5498 be filed to have a clear audit trail. However, the financial organization must provide a date of death valuation to the executor or administrator of the decedent s estate in a timely manner upon request. If the financial organization does receive notice before the deadline for filing Form 5498, but after the year of death, they should report the year of death FMV for both the deceased IRA Holder and the beneficiary as if they had received notice of the death in the year of death. That means that the FMV statement and/or the Form 5498 for the year of death may need to be corrected. The FMV Statement FMV and the Form 5498 FMV must ALWAYS agree. The second method reports the value of the decedent s IRA as of the end of the year of death as zero as well as the actual value of the beneficiary s portion of the inherited IRA as of the end of the year of death if he or she has not closed the IRA before that date. Rev. 9/

147 Year of Death Procedures and Reporting Example 1: IRA Holder dies November 6, 2016, age 75 The 2016 RMD was not taken Financial institution is NOT informed of the death until March 10, 2017 The IRA Holder s December 31, 2016 FMV Statement is already sent to the IRA Holder by January 31, 2017 The 2016 Form 5498 has not yet been sent to the IRS Solution 1: Example 2: Solution 2: 1. The financial institution MUST amend the IRA Holder s 2016 FMV Statement: 2. It must be re-issued reporting the FMV as the Date of Death or Zero! 3. If the zero option is used, the statement must also include notice to the deceased IRA Holder s representative that the Date of Death FMV is available upon request. If requested it must be provided within 90 days in any reasonable format. 4. The financial institution must also determine who the beneficiaries are and prepare a December 31, 2016 FMV statement for each of them, using their names as beneficiary of the deceased and their SSNs and/or TINs. The reported FMV is their share of the December 31, 2016 total balance. 5. Form 5498s must be prepared by May 31, 2016 for the deceased IRA Holder and all beneficiaries. Same situation as Example 1, but the IRA Custodian/Trustee was not informed of the death until June 15, The 2016 Form 5498 to/for the decedent has already been sent. 1. The financial institution must again amend the decedent s 2016 FMV Statement 2. Again it is re-issued reporting the FMV as of the Date of Death or Zero! 3. If the zero option is used, the statement must include notice to the decedent s representative that the Date of Death FMV is available upon request. If requested it MUST BE provided within 90 days in any reasonable format. 4. The Form 5498 for the decedent MUST BE corrected. 5. The IRA Custodian/Trustee must also determine who the beneficiaries are and prepare a December 31, 2016 FMV Statement for each of them, using their names as beneficiary of the decedent with their SSNs or TINs, using their share of the December 31, 2016 balance. 6. Form 5498s must be prepared for each beneficiary as of December 31, Caution: If any transactions occurred between the date of death and the notification of death, they must be accounted for by the financial institution because the IRS position is the IRA balance as of the date of death belongs to the beneficiaries, NOT the estate of the deceased, regardless of when notified. Rev. 9/

148 Year of Death Procedures and Reporting In addition, the IRA beneficiaries are responsible for the 2016 RMD which was not taken by the IRA Holder or by the beneficiaries. The 50% penalty applies to the beneficiaries who were responsible for it starting the date of death. They may request an abatement of the penalty when filing/amending their 2016 personal tax returns, showing the penalty. Since, in this example, it will not be paid out sooner than 2017, reported on a 2017 Form R, it will be taxed in (Hint: If they have not satisfied the delinquent RMD there is little chance the IRS would abate any penalty, regardless of the reason.) NOTE 1: When a trust is a named IRA beneficiary, all reporting must be done using the Federal ID of the trust, NOT the Social Security Number of the decedent, decedent s spouse or the beneficiary of the trust. There is no exception for this IRA rule! The rule is different than non-ira trust reporting rules, but must be followed. NOTE 2: The same reporting procedure is applied for Inherited IRAs when the Holder (Original Beneficiary) of the Inherited IRA dies prior to distributing all of the funds. Example: John dies in 2016, names Jim as his beneficiary. Jim dies in 2017 before distributing all of the funds. A Form 5498 must be produced for Jim for the year of death, again showing Date of Death FMV or zero. Rev. 9/

149 Year of Death Procedures and Reporting Alternative Reporting Method One Below is an example of a Form 5498 reporting the fair market value for a deceased IRA Holder using the decedent s name and Social Security Number as of his date of death: If the death occurred in 2016 Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Russell N. Cattell X 123 Rodeo Way Bronco TX Rev. 9/

150 Year of Death Procedures and Reporting If the death occurred in 2017 Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Russell N. Cattell X 123 Rodeo Way Bronco TX Rev. 9/

151 Year of Death Procedures and Reporting Under alternative reporting method one, if the beneficiary has not closed the inherited IRA, the beneficiary s fair market value is reported on Form 5498 using the beneficiary s name and Social Security Number as of the end of the year of death as follows: If the death occurred in 2017 Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA , Brandon Cattell as Beneficiary of Russell N. Cattell X 345 Rodeo Way Bronco TX Rev. 9/

152 Year of Death Procedures and Reporting If the death occurred in 2016 Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA , Brandon Cattell as Beneficiary of Russell N. Cattell X 345 Rodeo Way Bronco TX Rev. 9/

153 Year of Death Procedures and Reporting Alternative Reporting Method Two Below is an example of a Form 5498 reporting the fair market value for a deceased IRA Holder as of the end of the year of death (zero): If the death occurred in 2017 Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Russell N. Cattell X 123 Rodeo Way Bronco TX Rev. 9/

154 Year of Death Procedures and Reporting If the death occurred in 2016 Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Russell N. Cattell X 123 Rodeo Way Bronco TX Rev. 9/

155 Year of Death Procedures and Reporting Under alternative reporting method two, if the beneficiary has not closed the inherited IRA, the beneficiary s fair market value is reported on Form 5498 as of the end of the year of death as follows: If the death occurred in 2017 Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Brandon Cattell as Beneficiary of Russell N. Cattell X 345 Rodeo Way Bronco TX Rev. 9/

156 Year of Death Procedures and Reporting If the death occurred in 2016 Trustworthy Financial Corp. 300 Integrity Way Anywhere, USA Brandon Cattell as Beneficiary of Russell N. Cattell X 345 Rodeo Way Bronco TX Rev. 9/

157 Year of Death Procedures and Reporting Death Distribution Checklist (Implement Upon Notification of Death) Stop all systematic distributions to/for the IRA Holder. Find most recent beneficiary designation, and send a letter to each beneficiary on file informing him or her of his or her percentage of the IRA they are to inherit based on the beneficiary designation, their distribution options based on whether the IRA Holder died before or on or after his or her required beginning date and the beneficiary s relationship to the IRA Holder, the deadline for making distribution elections, the impact of failing to make an election, and the need to contact your financial organization immediately if they believe any of the information listed in the letter is incorrect. In cases where the IRA Holder died on or after his or her required beginning date, the letter should also inform the beneficiary if the IRA Holder satisfied his or her RMD requirement in the year of death, and if not, how much remains to be taken in order to satisfy the RMD requirement for the year of death. Transfer beneficiary balances to beneficiary accounts according to beneficiary designation directions and system requirements. Each beneficiary should have a separate account and each account s title should clearly indicate that the IRA is inherited (e.g., Tom Jones spouse beneficiary of Sally Jones). All distributions from a Traditional, SEP, or SIMPLE IRA beneficiary subaccount, whether spousal or nonspousal, should be coded 4 on Form 1099-R. This is true even for year of death distributions that must be taken on behalf of a deceased IRA Holder. Distributions from a Roth IRA beneficiary account will either be coded as T, if it is unknown if the five-year rule has been satisfied or the IRA Custodian/Trustee has not been satisfied, or coded as Q, if it is known that the five-year rule has been satisfied. NOTE: Be sure to transfer the correct balance and all earned income from the date of death to the date of the transfer of the decedent s funds to the Inherited IRA(s). The entire balance belongs to the beneficiaries starting the date of death AND all subsequent earnings must be transferred to the Inherited IRAs. Spouses may transfer assets to a Traditional or Roth IRA in his or her own name, however, the financial organization should not transfer Traditional IRA assets to an IRA in the spouse s name unless the spouse directs the financial organization to do so. If a spouse decides to take this approach and does not take the year of death distribution before transferring the assets into his or her own account, when he or she does take the year of death distribution, it should be coded as a code 7, not a code 4. If the inherited IRA is a Roth IRA, no year of death distribution exists, since Roth IRAs are not subject to RMDs during the lifetime of the original Roth IRA Holder. Before processing beneficiary distributions, a (certified) death certificate should be delivered as proof of the IRA Holder s death. As beneficiary s contact the financial organization and make distribution elections, and name successor beneficiaries, beneficiary distribution logs should be established in each beneficiary file to track elections and annual distributions. Federal withholding elections and subsequent notices are also required. If a beneficiary wants to transfer an inherited IRA to an inherited IRA at another financial institution, it is not necessary to create an inherited IRA at the sending institution before transferring, because the transaction is not treated like a distribution or a reportable event; however, some organization s prefer, and it is recommended, to transfer from an inherited account to avoid confusion as to the type of IRA that is being transferred. In either case, the inherited funds/assets should not be transferred before receiving written authorization from the receiving financial institution. Rev. 9/

158 Year of Death Procedures and Reporting Inherited IRA RMD Information (placed in each beneficiary s file upon notification of death, not for spouses that treat as own) Deceased IRA Holder Name Original Account # Date of Birth Date of Death Date Copy of Certified Death Certificate Was Received? Location of Death Certificate if Not Held In File? Death Before or On or After RBD? (April 1 following age 70 1 /2 year) Yes or No (circle) If After, Date Year of Death Distribution Was Satisfied Beneficiary Distribution Option (See Beneficiary Option Charts for Possible Options) Beneficiary Account # Type of Beneficiary (e.g., spouse, non-spouse, qualified trust, nonqualified trust, entity) Sole Beneficiary? Yes or No (circle) If no, what are names and DOBs (if applicable) of other beneficiaries? Names of Beneficiaries with Account Balances Who Have Not Taken Full Distributions as of (date for determining designated beneficiary) Inherited IRA Beneficiary(ies) Date Name(s) and Percentage Rev. 9/

159 Year of Death Procedures and Reporting Year of IRA Holder Death Distribution Option (see charts for options before and after RBD) If life expectancy (LE) is elected, recalculated or nonrecalculated? Amount of year of death distribution taken by beneficiary and when Beneficiary RMD Log (Copy of Distribution Election Attached) Distribution Year LE Factor Used Prior YE Balance Amount Calculated/ Amount Taken Aggregating Elsewhere? Check if Year of Death Distribution Rev. 9/

160 Year of Death Procedures and Reporting Questions and Answers Q-1 Our IRA Holder died with his Revocable Living Trust as the only Primary Beneficiary. The beneficiaries of the trust are his four children. Their attorney has demanded that all of the inherited funds be divided into four Inherited IRAs for the four children, as beneficiary of the trust. Can this be done? A-1 First, this can NOT be done. It has only been authorized by Private Letter Rulings (PLRs). PLRs ONLY APPLY TO THE SPECIFIC SITUATIONS OF THE PLR. They can NOT be used as precedent for anyone else. The IRS is very specific on this. The Beneficiary Trustee must select a valid option for the Trust and then distribute it to the children, NOT transfer or roll it over to the children s IRA or Inherited IRA. Rev. 9/

161 Beneficiary Required Minimum Distributions CHAPTER 7: Beneficiary Required Minimum Distributions Inherited IRAs present unique challenges for most financial organizations because they are subject to required minimum distribution rules, including the IRS 50 percent excess accumulation penalty for failing to take an RMD by the required deadline. However, the application of the RMD rules differs for inherited IRAs depending on a variety of factors, including who the designated beneficiary is as of the deadline for determining the designated beneficiary, whether the IRA Holder died before or on or after his or her required beginning date, as well as the interplay between regulatory and plan document defaults in the event that a beneficiary does not make a distribution election before the deadline for doing so. The IRS has done their best to confuse this process. First the IRS uses the term Designated Beneficiary to describe ONLY IRA Beneficiaries that are people! So if you read the Internal Revenue Code or Regulations, do not be confused by this. IRA Beneficiaries can certainly be non-people, like trusts, estates, charities, foundations, etc., but technically they are NOT DESIGNATED BENEFICIARIES! They are Beneficiaries that have been designated and have different rules. This chapter will distinguish between the two terms and try to make it as clear as possible. Deadline for Determining the Designated Beneficiary A designated beneficiary is the person whose life expectancy is used to calculate beneficiary distributions. A person may become the designated beneficiary either by being named a beneficiary by the IRA Holder, or under the terms of the IRA plan. The designated beneficiary of an IRA, for RMD calculation purposes, is determined as of September 30 of the year following the year an IRA Holder dies. This deadline is sometimes referred to as the beneficiary determination date, and is only for the purpose of determining whose life expectancy will be used to calculate beneficiary RMDs in the event that the IRA is not separately accounted for by the deadline for doing so, or when there are multiple beneficiaries within a qualified trust (each of which will be discussed in more detail later in this chapter). It is important to understand that the deadline for determining the designated beneficiary does not determine who owns inherited IRA assets, but only which beneficiary s life expectancy will be used for life expectancy calculations. So, if a named beneficiary takes a full distribution before the designated beneficiary determination date, his or her life expectancy will not be considered when determining whose life expectancy should be used for ongoing RMD calculation purposes even if he or she was the oldest beneficiary at the time of the IRA Holder s death and even though he or she received his or her share of the IRA. (See Separate Accounts later in this manual) Rev. 9/

162 Beneficiary Required Minimum Distributions Types of Beneficiaries Beneficiaries are divided into three main categories corresponding to the distribution options available to them upon inheriting an IRA. These categories include: Sole Spouse Beneficiaries Nonspouse Beneficiaries (including Spouse Beneficiaries who are NOT the Sole Beneficiary) Nonperson Beneficiaries (including estates, charities, trusts, etc.) Types of Trusts for IRA Purposes Trusts can certainly be named as an IRA Beneficiary. There are two types of trusts for IRA Beneficiary purposes, Qualified and Non-Qualified. Qualified Trust To be a Qualified Trust the trust must be: Valid under state law Irrevocable or will be upon the death of the IRA Holder Beneficiaries of the trust must be identifiable within the trust document and must all be people Required documentation must be provided to the IRA Custodian/Trustee 1. Copy of the trust document 2. Provide the IRA Custodian/Trustee with a certified list of Trust Beneficiaries as of the beneficiary determination date 3. Provide a statement that a copy of the trust document will be made available upon the request of the IRA Custodian/Trustee 4. Certification that all information is valid and that any changes will be timely documented. NOTE: The IRA Custodian/Trustee can require the receipt of the complete trust document. Non-Qualified Trust A non-qualified trust is not able to use the age of any beneficiary for the purposes of calculating Beneficiary RMDs. The age of the decedent must be used. A qualified trust allows IRA administrators to use the life expectancy of the oldest beneficiary of the trust for RMD purposes. Depending on the underlying beneficiaries of the trust, the trust may be treated like a spouse or nonspouse beneficiary for RMD purposes. We will discuss nonqualified and qualified trusts in more detail later, but first, let s look at some different options for establishing beneficiary IRAs, as well as examples of how to title beneficiary IRAs depending on the type of beneficiary named. Establishing and Titling Inherited IRAs As soon as a financial organization is notified of an IRA Holder s death and has been provided with the proper documentation (death certificate, beneficiary information for trust beneficiaries, etc.), it should set up separate accounts for each beneficiary s IRA portion under the beneficiary s name and social security number or ITIN as beneficiary s of the deceased IRA Holder. Rev. 9/

163 Beneficiary Required Minimum Distributions The first name used in the title of an IRA should be the name of the person/entity whose Tax ID number is being used for reporting purposes, such as: Sarah Moore, as beneficiary of Mary Moore, deceased (using Sara Moore s Social Security Number); Habitat for Humanity, as beneficiary of Mary Moore, deceased (using Habitat for Humanity s tax ID number); Mary Moore s Estate, as beneficiary of Mary Moore, deceased (using Mary Moore s Estate tax ID number); Mary Moore s Living Trust, as beneficiary of Mary Moore, deceased (Using Mary Moore s trust tax ID number). NOTE 1: The decedent s Social Security Number can NEVER be used to identify the beneficiary account, not for trusts, not for estates, NOT EVER! NOTE 2: Some IRA Custodians/Trustees also identify the original IRA Holder within the title. Also, it is possible but not recommended to set up beneficiary accounts without a beneficiary signing a plan document. Some vendors have now created an Inherited IRA Plan Agreement, because in some cases, a beneficiary may want to name a beneficiary for his or her inherited portion of an IRA in the event that he or she dies before depleting his or her share. In such a case, most financial institutions will have the beneficiary establish an inherited IRA as a beneficiary and have the beneficiary fill out and sign a beneficiary naming beneficiary form. Note, however, upon death of the original beneficiary, the successor beneficiary named by the original beneficiary of the inherited IRA must continue receiving RMD payouts at the same rate or faster that the original beneficiary was receiving them. In addition, when beneficiaries are changing financial institutions, it is recommended that an Inherited IRA Plan Document always be used. IMPORTANT! Do not confuse obtaining an Inherited IRA Plan Agreement with establishing the Inherited IRA in your reporting/computer system. Whether the IRA Beneficiary signs something or not, the Inherited IRA accounts must be reported for all beneficiaries at the end of the year of the IRA Accountholder s death. Spouse Beneficiary Treating As Own In Any Year Following Year of Death When a spouse beneficiary treats an inherited IRA as his or her own, the regulations state that he or she may treat the IRA as if it were his or her own for the entire year, except for the year of death. Example: June Smith s husband died in After taking his RBD from the Inherited IRA in 2016, she decided to treat the IRA as her own on June 1, The Inherited IRA assets are transferred into her existing IRA or her new IRA. For the purpose of determining the RMD on the IRA for 2017, June may calculate her RMD using the December 31, 2016 balance and using the uniform lifetime table based on her attained age in Rev. 9/

164 Beneficiary Required Minimum Distributions Importance of Separate Accounts with Multiple Beneficiaries Separate accounting of inherited IRAs is important when multiple beneficiaries are named because it allows each beneficiary to calculate his or her distribution independently. If separate accounts are not established, or are not properly maintained, beneficiary distributions must be determined based on the age of the oldest beneficiary. Separate accounts must be established no later than December 31 of the year following the year of the individual s death, and must reflect the separate interests of the beneficiaries of the IRA as of the IRA Holder s death. Separate accounting must also allocate all gains, losses, contributions and forfeitures on a reasonable and consistent basis to each beneficiary based on the allocated percentages for each. Please note that the September 30 deadline for determining the designated beneficiary does not supersede the December 31 deadline for establishing separate accounts. For example, in a case where an IRA Holder has named multiple primary beneficiaries, if separate accounts have not yet been established as of October 31 of the year following an IRA Holder s death, and as of that time, the designated beneficiary is determined to be the oldest beneficiary that still has assets in the IRA, this does not preclude separate accounts being established prior to the December 31 deadline, which would allow each beneficiary to take IRA distributions based on his or her own life expectancy for all following distribution years. September 30 only determines which beneficiary s age would be used if separate accounting was NOT used. Separate Accounting Misunderstood Here again the IRS has done it s best to confuse. The option of using separate accounting is actually the option of the IRA Custodian/Trustee. IRA Custodians/Trustees are allowed to require only one RMD calculation, using the age of the oldest beneficiary, even though the trust may be qualified. Not many financial institutions require this, but some do. It is easier for administrating, however, it does put the beneficiaries at a disadvantage. If the IRA Custodian/Trustee does NOT allow separate accounting, remember, it is only for the calculation of the RMDs. The inherited IRAs for each beneficiary must be reported separately and, of course, their funds/assets must be accounted for separately. Example: IRA Holder dies on June 15, 2016 with four primary beneficiaries. Mother, age 75 Wife age 50 Son age 25 Daughter age 27 The IRA Custodian does NOT allow separate accounting for RMD purposes. If all of the beneficiaries have balances as of September 30, 2017, the age of the mother must be used for all RMD calculations If, however, the mother closes out her inherited IRA before September 30, 2017, the age of the wife/mother must be used for all RMD calculations. Rev. 9/

165 Beneficiary Required Minimum Distributions If both the mother and the wife close out their inherited IRAs by September 30, 2016, the age of the daughter must be used for all RMD calculations. Qualified Disclaimers An IRA beneficiary may disclaim a whole or partial interest in the inherited IRA, and be treated as if he or she had never owned the property for both income and gift tax purposes. Requirements for a Qualified Disclaimer The disclaimer must be in writing. The disclaimer must be given to the holder of the property s legal title (the financial institution holding the IRA) not later than nine months after the later of: 1) the death of the original owner (i.e., the IRA Holder) or 2) the day on which such person attains age 21 (Ex.- If a sixteen year old inherited an IRA on her 16th birthday, she would have until her 21st birthday to disclaim any portion of the inherited IRA that she had not claimed prior to that point.) In other words, she would be subject to the RMD requirements until the point she disclaims, but she may disclaim whatever is remaining in the IRA when she attains age 21. If the beneficiary waits until after attaining age 21, the RMD up until that point would be required to be taken by the beneficiary. RMDs can NOT be delayed until after making an intended disclaimer. That also means the Inherited IRA Custodian/Trustee must report per IRS Rev. Proc until the disclaimer is received and effective.) The disclaimant must not have accepted/received the disclaimed interest or any of its benefits. The disclaimed interest must pass without direction on the part of the disclaimant to a person other than the disclaimant. NOTE: The disclaimant could have already started taking distributions. Question: Can a Power of Attorney disclaim on behalf of an IRA Beneficiary? Answer: Yes, they can IF the POA Document clearly specifies such allowable action AND the state of enforcement allows such allowable actions. It is a legal question that must be answered BEFORE any transaction is made. Rev. 9/

166 Beneficiary Required Minimum Distributions Trusts as Beneficiaries (Additional Discussion can be found in Chapter 6) Trusts are typically named as beneficiaries for two reasons. They allow: greater control over how assets are distributed from an IRA than a standard pro rata/per capita or per stirpes designation, IRA assets to transfer to beneficiaries without going through probate. In general, for IRA purposes there are two primary types of trusts that may be named as beneficiary of an IRA: nonqualified, and qualified. The primary difference between a nonqualified and qualified trust from an IRA administrator s perspective is that nonqualified trust beneficiaries are not allowed to use the life expectancy of any underlying beneficiaries to calculate beneficiary RMDs in the event the IRA Holder dies. Qualified trusts, on the other hand, allow beneficiary RMDs to be calculated based on the life expectancy of the beneficiary of the trust with the shortest life expectancy. Because trust beneficiaries can have implications for IRA administration, whenever a trust is named as beneficiary of an IRA a financial organization should at a minimum: Obtain the name and contact information for the trust s trustee. Have an attorney verify that each trust named as beneficiary is valid under state law, or, alternatively, have an attorney provide written guidelines as to information that must be provided before a trust is accepted as beneficiary of an IRA. Have an attorney determine whether there are any unique restrictions on beneficiary distributions that are stipulated by the trust itself (e.g., limiting distribution options or number of years over which distributions may be taken). The trust restrictions may NOT be less restrictive than the IRS Regulations. Make sure a tax identification number is established for the trust before any payouts are to be made to it and that all payouts are reported under the proper name and tax identification number of the trust. The social security numbers of the deceased or the beneficiaries can NOT be used. Know the name and contact number of the individual who is responsible for answering questions about the trust s operations, and refer any questions that arise relating to the trust to this individual. Qualified Trusts Because qualified trusts allow for beneficiary RMDs to be calculated based on an underlying beneficiary of the trust, special documentation requirements apply. It is not required to get a copy of trust but recommended. The financial institution could get a certification of trust, signifying they have a trust. Furthermore, the trustee if asked must provide the financial organization with the trust instrument or qualified documentation of the trust by October 31 of the year following the year an IRA Holder dies, and this documentation must include a list of the trust beneficiaries as of September 30 of year following the year of the IRA Holder s death. The financial institution should rely on its own legal counsel in these matters. Rev. 9/

167 Beneficiary Required Minimum Distributions Death Before or On or After the Required Beginning Date When determining distribution options for an inherited IRA, not only does it matter who the designated beneficiary is, it also matters whether the IRA Holder died before or on or after his or her required beginning date. The required beginning date for IRA Holders is April 1 of the year following the IRA Holder s 70 1 /2 year. If the IRA Holder dies before this date, one set of distribution rules applies. If the IRA Holder dies on or after this date, a different set of distribution rules applies. Traditional, SEP and SIMPLE IRA Death BEFORE the Required Beginning Date Beneficiary Options 1 These options are available when no beneficiary is named, or a beneficiary that cannot use life expectancy is named such as an estate, a charity, or a nonqualified trust. However, if a trust is named as beneficiary, it is important to refer to the trust document for any additional stipulations. 2 Assets must be completely paid out by the end of the fifth year following the year of death 3 Payouts must begin the later of 12/31 of the year following the year of death or 12/31 of the year the IRA Holder would have attained age 70 1 /2. 4 Payouts must begin by 12/31 of the year following the year of death Under the regulations, if a beneficiary does not make an election regarding the method of distribution they want to use, the default for spouse and nonspouse beneficiaries is single life expectancy, and the five-year rule for non-person beneficiaries. A plan document may impose different defaults, so if a beneficiary fails to make an election by the deadline, the plan document s defaults should be checked and used if they differ from the regulatory defaults. Plan document defaults must call for RMDs at least as great as those per IRS regulations. Rev. 9/

168 Beneficiary Required Minimum Distributions Roth IRA Beneficiary Distribution Options All Dates of Death 1 These options are available when no beneficiary is named, or a beneficiary that cannot use life expectancy is named such as an estate, a charity, or a nonqualified trust. However, if a trust is named as beneficiary, it is important to refer to the trust document for any additional stipulations 2 Assets must be completely paid out by the end of the fifth year following the year of death 3 Payouts must begin the later of 12/31 of the year following the year of death or 12/31 of the year the IRA Holder would have attained age 70 1 /2. 4 This is the only option offered on the IRA Roth IRA model document. This provision must be amended to allow a spouse beneficiary other distribution options. Be sure to check your plan agreement before allowing a spouse beneficiary any options other than treating it as his or her own. 5 Payouts must begin by 12/31 of the year following the year of death Under the regulations, if a beneficiary does not make an election regarding the method of distribution they want to use, the default for spouse and nonspouse beneficiaries is single life expectancy, and the five-year rule for non-person beneficiaries. A plan document may impose different defaults, so if a beneficiary fails to make an election by the deadline, the plan document s defaults should be checked and used if they differ from the regulatory defaults.plan document defaults must call for RMDs at least as great as those per IRS regulations. NOTE 1: All Roth IRA Beneficiaries have these options as listed. There is no required beginning date for the Roth IRA Holder, consequently are there only one set of beneficiary options. Rev. 9/

169 Beneficiary Required Minimum Distributions NOTE 2: Non-Spouse and Non-Person Beneficiaries must take RMDs from Inherited Roth IRAs. If the RMDs are not taken timely, the Roth IRA Beneficiaries are subject to the same IRS 50% Penalty as the Traditional, SEP and SIMPLE IRA Holders and Beneficiaries. All such penalties are calculated in the same manner, based on the amount of the RMD not taken timely. Traditional, SEP and SIMPLE IRAs Death ON OR AFTER the Required Beginning Date 1 Single life expectancy is determined each year by referring to the single life expectancy table (Table 1) in Publication 590 based on the age of the sole spouse beneficiary. The first beneficiary distribution is due by 12/31 of the year following the year the IRA Holder died. If the spouse beneficiary dies after beneficiary distributions commence, the single life expectancy payments will switch to nonrecalculated in the year following death. 2 Single life expectancy is determined by obtaining the deceased IRA Holder s single life expectancy from the single life expectancy table (Table 1) in Publication 590 and subtracting one year for every year that has passed since the year of death. The first beneficiary distribution is due by 12/31 of the year following the year the IRA Holder died. 3 Single life expectancy is determined by obtaining the oldest beneficiary s single life expectancy in the year following the year of death from the single life expectancy table (Table 1) in Publication 590 and by subtracting one year for every year that passes from that point forward. The first beneficiary distribution is due by 12/31 of the year following the year the IRA Holder died. 4 If separate accounting is used, each beneficiary may use his or her own life expectancy to calculate how much must be taken each year from his or her inherited portion of the IRA. Rev. 9/

170 Beneficiary Required Minimum Distributions Special Rules for Qualified Trust IRA Beneficiaries For IRA purposes there are two types of trusts that act as IRA Beneficiaries, Qualified and Non-Qualified. The previous charts and examples have illustrated how Non-Qualified Trusts are treated and what their options are as beneficiaries. Qualified Trusts have additional options. First, what is a Qualified Trust? A Qualified Trust MUST BE IRREV- OCABLE, at least after the IRA Holder dies. In addition, a Qualified Trust must only have beneficiaries that are people. If a trust beneficiary is another trust, charity, foundation, or any non-person entity it is NOT considered qualified. In addition, a Qualified Trust must meet the following requirements by October 31 of the year after the year of death of the IRA Holder died: * It must be valid under state law * The beneficiaries of the trust must be identifiable in the trust document * All required documentation has been provided. A financial institution is allowed to require receipt of the full trust document A financial institution can require certain other verification Once the IRA Beneficiary is proven to be a Qualified Trust the following rules apply. If the IRA Holder died PRIOR TO his or her Required Beginning Date 1. Five-Year Rule 2. Annual distributions based on single-life expectancy of the oldest beneficiary of the trust, NON RECALCULATED ii. The December 31 age is used ONLY IN THE FIRST YEAR AFTER THE YEAR OF DEATH to calculate the beneficiary RMD starting with the year after death ii. The life expectancy factor is reduced by one for each subsequent year 3. Any amount greater than the amount calculated above 4. Allowed to close out the account at any time If the IRA Holder died ON or AFTER his or her Required Beginning Date 1. Five-Year Rule DOES NOT APPLY 2. Annual distributions based on single-life expectancy, of the oldest beneficiary of the trust, NON RECALCULATED i. The December 31 age is used ONLY IN THE FIRST YEAR AFTER THE YEAR OF DEATH to calculate the beneficiary RMD starting with the year after death. ii. The life expectancy factor is reduced by one for each subsequent year iii. Any amount greater than the amount calculated above iv. Allowed to close out the account at any time *****IMPORTANT NOTE***** The beneficiary options, regardless of who the beneficiary is, can be dictated by the IRA Holder. However, they must be no less than a valid calculation per the IRS rules. Rev. 9/

171 Beneficiary Required Minimum Distributions Recalculation vs. Nonrecalculation In order to understand how to calculate life expectancy payouts, you must understand the definition of two words that are unique to calculating RMDs: recalculation, and nonrecalculation. Recalculation means that the life expectancy factor used to calculate an RMD is looked up in a life expectancy table each year. Recalculation is only available to sole spouse beneficiaries during their lifetime, it is not available to nonspouse beneficiaries or spouse beneficiaries who are not the sole beneficiary of an IRA. Nonrecalculation means that the life expectancy factor used to calculate RMDs is looked up once, when payouts first begin, and from that point forward, one year is subtracted from the factor each year. This result is the life expectancy factor that is used to calculate the RMD for the year. If a non-spouse is using the life expectancy of the deceased, such as when the beneficiary is older than the deceased, or when the IRA Holder dies after the RBD, and a non-person (i.e., estate, nonqualified trust, or entity) is named as the beneficiary, the first beneficiary distribution is based on the life expectancy of the IRA Holder in the year of death, and is reduced by one for the first beneficiary distribution that is due by 12/31 following the year of death, and each subsequent year. Formula for Calculating Beneficiary RMDs The formula for calculating beneficiary RMDs is the same formula used to calculate RMDs for Traditional IRA Holders when they turn 70 1 /2. To calculate an RMD for a calendar year, you must divide the prior year end balance by the applicable life expectancy, as shown below. 12/31 Inherited IRA Balance for Prior Year Life Expectancy = Beneficiary RMD Amount The formula above is the same formula used to calculate RMDs for individuals who are age 70 1 /2 or greater, only using amounts from Inherited IRAs. Rev. 9/

172 Beneficiary Required Minimum Distributions Federal Income Tax Withholding Federal Income tax withholding requirements apply to all Traditional, SEP, and SIMPLE beneficiary distributions, including RMDs. If a beneficiary does not fill out a withholding election to the contrary, 10 percent must be withheld from all distributions taken from the inherited IRA. Important Compliance Reminder! The establishment of beneficiary accounts is a very important preventative measure against accidentally making distributions under a deceased IRA Holder s Social Security Number. Remember: Be sure to cancel all periodic distribution schedules when the IRA Holder dies. The entire balance of the IRA as of the date of death belongs to the beneficiaries, and they control the distribution of it, not the deceased IRA Holder. Don t leave IRA assets in a deceased person s IRA when you have been notified of a death, move them to an inherited IRA! (Transfer to a beneficiary account or a spouse beneficiary s own account if he or she elects to treat the assets as his or her own.) Don t issue distributions in the name of a decedent, only in the name of the beneficiary from the inherited IRA! (Death distributions) Don t use a deceased person s Social Security Number to report distributions that occur after an IRA Holder dies, only the beneficiary s Social Security Number or Federal Tax ID Number! Don t issue distributions to the beneficiary out of the deceased account, transfer to the inherited IRA. Note: The exception would be if your software can correctly report the distribution in the beneficiaries name and SSN/TIN. Rev. 9/

173 Beneficiary Required Minimum Distributions [SAMPLE Beneficiary RMD NOTICE] January, 2017 [Name] [Address] According to our records you were named as [percentage inherited; e.g., 100%, 50%, etc.] beneficiary of [name of deceased] s [type of IRA], Acct. #. According to information provided to us, the original holder of this account died on [date]. Because the IRA Holder of this account died [before/after the required beginning date], and you are a(n) [spouse, nonspouse, entity], your distribution options for your inherited IRA are as follows: [List appropriate options, in the case of a death after the required beginning date, you should also include information as to the status of the year of death distribution.] Please elect a distribution option and return it to us as soon as possible. Upon receiving your elections, we will contact you to inform you if additional information is required or additional paperwork must be signed. Consequences for Failing to Satisfy an RMD It is your responsibility to satisfy the RMD associated with this Traditional IRA by the applicable deadline. If you do not, you will be subject to a penalty equal to 50 percent of the annual RMD amount. Making Your RMD Election Please let us know how you intend to satisfy the RMD requirement for 2016 by filling out the attached election form and returning it to us as soon as possible. If we do not hear from you by [date], we will assume you have decided to take your RMD from another IRA. If you have any questions, please do not hesitate to call [Name] at [Phone Number] [hours and days available to take calls]. Sincerely, Rev. 9/

174 Beneficiary Required Minimum Distributions 2017 Beneficiary RMD ELECTION FORM January, 2017 [Name] [Address] Year of Death Distribution Election (if IRA Holder died after) The deceased IRA Holder of this account was aggregating RMDs at another institution and the year of death distribution has been fully satisfied. The deceased IRA Holder of this account was aggregating RMDs at another institution and the year of death distribution has been partially satisfied. Please send me a distribution in the amount of. (If withholding is not waived on a Form W-4P, 10 percent income tax withholding will apply.) Send me the remaining year of death distribution listed in the letter to me at the address listed above. (If withholding is not waived on a Form W-4P, 10 percent income tax withholding will apply.) Send me an amount equal to. (If withholding is not waived on a Form W-4P, 10 percent income tax withholding will apply.) The year of death RMD has already been satisfied, and I elect no further distributions this year. Close the entire account and send the balance to: (If withholding is not waived on a Form W-4P, 10% income tax withholding will apply.) Rev. 9/

175 Beneficiary Required Minimum Distributions Beneficiary Payout Options (death before required beginning date) I elect: To deplete the entire account by the end of the fifth year following the original IRA Holder s death. To take life expectancy payments. To aggregate my RMDs at another IRA for which I am the Beneficiary for this same IRA Holder. To inform you of how much I want to take each year before the distribution deadline. (If spouse beneficiary) I elect to transfer my inherited portion to an IRA in my name. (additional paperwork is required). Beneficiary Payout Options (death after required beginning date) I elect: To continue taking life expectancy payments according to the RMD rules. To aggregate my RMDs at another IRA for which I am the beneficiary for this same IRA Holder. To inform you of how much I want to take each year before the distribution deadline. I agree to indemnify and hold harmless [Financial Organization] as Custodian/Trustee of my IRA from any adverse tax consequences or other losses that may result from my decision to take my RMD in this manner. [Name] [Account #] [Date] Rev. 9/

176 Beneficiary Required Minimum Distributions Beneficiary Checklist Stop all systematic distributions from the IRA upon notification of the IRA Holder s death. Establish beneficiary accounts for each beneficiary on file and allocate their portion according to the latest beneficiary form on file. Request a (certified) copy of the death certificate before processing any distribution options. Send out letters to all beneficiaries informing them of their distribution options. Track responses and process distribution requests as death distributions. Keep all beneficiary distribution requests in file with copies of any checks that are sent out. Apply withholding according to most recent withholding election on file. If distributions are taken systematically, be sure to send out withholding notices. Special Cautions: Nonspouse beneficiaries may NOT roll over assets from or to an inherited IRA. If they do, the inherited IRA will cease to be an IRA (it will be treated as if it were distributed). To move assets inherited by a nonspouse to another inherited IRA, the new inherited IRA must be established as a beneficiary IRA and the assets must be transferred. They can NOT be rolled over. If a spouse beneficiary fails to take an RMD or makes a contribution to an inherited IRA, it ceases to be an inherited IRA and must be treated and reported as if it is the spouse beneficiary s own personal IRA, not an inherited IRA. Rev. 9/

177 Creating a Compliance Friendly Filing System CHAPTER 8: Creating a Compliance Friendly Filing System Creating a Compliance-Friendly Filing System The manner in which IRA hard copy paperwork is filed can make it easier to assure sound compliance practices. Filing IRA paperwork separately by IRA type is a good start; however, file folders with separate sections for the different types of IRA paperwork can make it even easier to verify compliance. One method of organization might be to separate file paper work as follows: Plan document information and amendment status Beneficiary designations/changes Customer correspondence Transaction requests (nonreportable transactions, such as transfers and investment changes should be separated from reportable transactions such as contributions and distributions). Required reporting section (RMD notices, withholding notices (most recent on top), annual account statements, FMV statements, 1099-R, and 5498). Some of this information may be stored in a master file, but it would be helpful if there was documentation in each file stating where each required report is stored. Master Files vs. Storing In Individual Files Because file space is usually at a premium, most financial organizations opt to store certain IRA related information in a master file rather than individual files in order to conserve space. As there is no statute of limitations on IRA reporting penalties, a master file is a good place to store at least five years worth, at a minimum, of the following items: Form 1099-R Form 5498 RMD Notices Withholding Notices sent out to satisfy regulatory requirements (not those associated with random distributions) Annual Account Statements A note as to how the FMV reporting requirement was calculated and satisfied In addition to retaining a hard copy of each of these reporting documents and procedures, a note should be attached to each set as to when the documents were actually sent to customers or submitted to the IRS, as applicable. The master file is also a good place to keep a copy of each amendment that goes out to customers as well as a list of who received the amendment and the cover letter that was sent to clients explaining the purpose of the amendment. Rev. 9/

178 Creating a Compliance Friendly Filing System Ability to Prove Compliance/Archival Procedures IRA compliance is really two fold. First the IRS requirements must be followed and the proper reports and statements must be completed correctly and timely. Compliance with IRS rules, regulations, and procedures is a complicated process. Not only must the IRA Custodian/Trustee, or the IRA Administrator for the IRA Custodian/Trustee, comply timely and correctly, they must be able to prove they complied timely and correctly. This is where good documentation enters into the picture. Second, in the event of an IRS audit, the IRA Custodian/Trustee/administrator must be able to demonstrate that it has processes and procedures in place to assure that required IRA reporting and administration occurs. This system must be accessible and easy to understand, whether it is based strictly on paper files, electronic files, or a combination of both. Many financial organizations maintain a master file, or history file that contains copies of the establishing IRA documents that were used and how they were completed. This master file can also be used to document special mailings like amendments or required notices. It too could be scanned/archived. Other financial organizations are more comfortable keeping a complete copy of all documents and reports in the IRA Holder s individual IRA files. While this can be cumbersome, it is absolutely the best method to prove compliance. Either way, correctly executed documentation is essential. So the scanning of them needs to be carefully processed. It needs to be reviewed for overlaps of scanned documents or unreadable documents. A good rule to follow is that if a document is bad in hard copy, it needs extra care in scanning, and usually the hard copy should be saved. The acceptability of scanned IRA documents has really never been directly addressed by the IRS. The IRS is way behind in dealing with the electronic age. Because of that our usual recommendation is that ALL IRA documents should be saved forever. As you can imagine, this is not always acceptable or practical, so you must rely on your own legal counsel for this issue. You will need to remember that there are banking regulations, legal issues and state laws to also consider, besides the IRA rules, regulations and procedures. So when asked to come up with an alternative procedure to saving everything forever, our next best recommendation is this: Save all IRA establishing documents, hard copy, for at least a minimum of five years. This includes IRA applications; plan agreements, disclosure statements, financial disclosures and amendments. This also applies to Federal (and state) withholding documentation and beneficiary designation documentation. This will generally cover the three years after filing and amending that is the usual audit procedure for the IRS. Then your usual scanning and shredding procedures can be followed. Many financial institutions, however, use at least ten years as a cutoff before any archiving and shredding is done, which is preferable. Rev. 9/

179 Creating a Compliance Friendly Filing System The only inclination we have of what the IRS is thinking is found in IRS Publication 552,Recordkeeping for Individuals. In this publication, the IRA Holder/Taxpayer, not the IRA Custodian/Trustee/Administrator, is told to save all IRA documentation until the IRA is closed. This presumably would include through the final distribution to beneficiaries. NOTE: Recently, the IRS has removed this publication from their web site, so the operative words in this area should be BE CAREFUL before shredding anything! A written policy and procedure should be adopted so that there is some type of audit trail/review following the scanning and destruction procedures. Final destruction should be approved only after the scanned documents are reviewed. While we recommend a very conservative time frame before shredding, an IRA Custodian/Trustee should always follow its own legal counsel. In so doing however, remain cognizant that it appears the IRS can require an IRA Custodian/Trustee, and therefore the IRA Administrator to prove any and all IRA transactions, as far back as they care to go. While three years after filing/amending is the norm, it would be unusual, but it is not impossible for the IRS to request farther back. This is especially true if any non-complying issues are found. Then, too, there can be state legal issues. Many states have a period of time after an account is closed that remains open for litigation purposes. Please see additional comments on this topic in Chapter 1 of this manual, Record Retention for IRA Administrators. Overall Archiving Recommendation: Keep all IRA documents and records for a minimum of 5 years. Ten years is better. Forever is best! Then after ten years, retain all original IRA Plan Agreements, Disclosures, Financial Disclosures, Amendments, Beneficiary Documents, and Federal (and state) Withholding Documents. Of course, in matters like this it is always good to follow your own legal counsel s recommendation. We recommend that you have a detailed procedure written for this process. It should include timing of the scanning/archiving and what, if any, the destruction period is, and how it is approved. Before any documents are destroyed, a detailed written procedure should become part of your Policies and Procedures. A control sheet should be maintained with all IRAs listed. It should also include any older files that are scanned/shredded. The date scanned should be noted as well as who scanned it. And, maybe most important, someone should maintain the schedule for shredding; making sure the file is scanned before it is shredded. Master File Recommendation: If you decide you are going to only scan the IRA application, as many financial institutions do, we recommend copies of the IRA plan agreement, disclosure statement, financial disclosure, financial projections and amendments be kept in a master file, where a copy of the current forms used/sent is scanned. They should be completed in the manner that is currently being used and the timeframe used. The file must be maintained currently so every time a form or procedure is changed, it is updated in the file. Think of it as historical sample file or historical procedure file. Rev. 9/

180 Creating a Compliance Friendly Filing System While the IRS could still ask for proof of what version of the document was used for a particular IRA Holder/Beneficiary, the better the master file, the less likely that is. Remember, the application usually only states that the IRA Holder received certain documents, it does not state what the documents said or what version it was. IMPORTANT: IRA Custodians/Trustees should always discuss their archival procedure with their compliance and legal counsel. And, remember, you may think the cost of compliance is high the COST OF NON-COM- PLIANCE IS EVEN HIGHER with the increasing IRS penalties. Specialized Logs/Compliance Notes There are several compliance areas where a notation in the file makes it easier to verify whether compliance requirements have been satisfied. For example: CIP requirements - If an existing customer wants to establish an IRA, it is not necessary to request identifying information for the IRA file. However, from an auditing standpoint, it is not possible to tell if an IRA client was an existing customer or whether the person establishing the account failed to follow the CIP procedures. (sample CIP Log follows) Amendments When an amendment master file is used, it is helpful to maintain a log in the master file and in each individual file that notes when amendments have been sent out and to whom. The same log format may be used for the master and individual file, the main difference being that the master file should log every amendment sent by the financial organization, while the individual file should only contain a log of amendments sent to that individual customer (sample Amendment Log follows) Notices/Elections - Although it is not necessary to keep a copy of required notices in individual files (withholding and RMD notices), it is helpful to keep a log in each IRA file that is subject to a notice requirement to record when the notice went out and the fact that the documentation is stored in the master file. This log could also be used to note withholding elections and RMD distribution elections. (sample Notice/Election Log follows) Beneficiary Designation Log - Since IRA Holders may change beneficiaries at any time, it makes it easier to track the current beneficiary if a log is kept in each IRA file that documents any beneficiary changes and when they occurred. This is particularly true when a customer is in RMD status and a beneficiary change involves using a different life expectancy calculation than what was used previously (spouse beneficiaries who are more than 10 years younger than the IRA Holder). However, if used consistently it is also useful in verifying the most recent beneficiary designation (which should be kept in the physical file, or stored electronically, in a paperless environment) when an IRA Holder dies. (sample Beneficiary Designation follows) Rev. 9/

181 Creating a Compliance Friendly Filing System RMD Logs An RMD log can provide an at-a-glance view of the RMD status of an IRA customer. Useful information includes: Distribution Year Name, birthdate, and relationship to the IRA Holder of the designated beneficiary (i.e., the beneficiary that is used to determine the life expectancy factor used for calculating RMDs) Date the beneficiary was named Life expectancy factor used to calculate the RMD Prior-year end balance RMD amount calculated Date the required RMD notice was sent to the IRA Holder Date RMD was taken, or an indication that the IRA Holder is aggregating his RMD at another institution. Although much of the beneficiary information requested for each distribution year may be the same from year to year, listing the information used to calculate each year s RMD requires the IRA specialist to verify that no beneficiary changes have been made since the last RMD calculation that may affect the current year RMD calculation. (sample Inherited IRA Log follows) Inherited IRA RMD Information To determine whether beneficiaries are satisfying the RMD requirements, it s important to know the relationship between the deceased IRA Holder and the beneficiary, whether the beneficiary was the sole beneficiary, whether the IRA Holder died before or on or after his or her required beginning date. This log serves as a cross-reference to the information that would normally be found in the deceased IRA Holder s customer file, as well as serving as a place for logging beneficiaries named by the beneficiary. (sample Inherited IRA follows) Transaction Logs Keeping transaction logs for reportable and nonreportable transactions can be valuable for cross-checking reporting forms and making sure that nonreportable transactions (i.e., transfers) are not reported by accident as long as they are used consistently. It is recommended that financial organizations log any transaction applicable to a reporting year (potentially from January 1-April 15) on these logs. Using a transaction log allows a financial organization to quickly scan the log and look for less common transactions, like recharacterizations, conversions, etc., to verify whether they have been properly reported on Forms 5498 and 1099-R. Some suggested transaction logs include a contribution log, an incoming transfer log, a distribution log, and an outgoing transfer log. Transaction Reporting Logs Reporting logs allow a financial organization to track and document when and how a mandatory reporting requirement was satisfied for a reporting year. Many of these logs could be done electronically with in your computer system. In fact, the financial institution should demand these logs/reports to help in their internal compliance review. Sample Logs Follow: Rev. 9/

182 Creating a Compliance Friendly Filing System CIP Log (To be Stored in Master File, CIP Documentation Stored in Applicable Customer File ) Caution: Always Follow Your Organization s Written Procedures, as Penalties for Failing to Do So Are Severe. Customer Name Type of IRA and Date Opened New Customer? If Not, List Acct. # of Existing Account, If Yes, see next column Documentation Requested and Copied to Satisfy CIP Rev. 9/

183 Creating a Compliance Friendly Filing System Amendment Log (To be Stored in Master File with Copies of Amendments with List of Recipients in Master File) Date Amendment Sent Type of IRA Amended Form Number/ Revision Date (Attach Copy with list of Customers who Received) Purpose (e.g., GUST (law change) or Merger (internal change)) Rev. 9/

184 Creating a Compliance Friendly Filing System RMD/ Withholding Notice and Election Log (Copy of Notice with List of Recipients in Master File) Date of Notice/Election Type of Notice/Election (RMD or withholding) If RMD Notice, Amount of RMD Calculated RMD/Withholding Election?* Rev. 9/

185 Creating a Compliance Friendly Filing System Beneficiary Designation Log (Copy of Beneficiary Designations Attached in Reverse Chronological Order) Date of Designation Names of Primary Beneficiary(ies) Percentage Designated Relationship to IRA Holder Rev. 9/

186 RMD Log (Copy of Distribution Election Attached) Creating a Compliance Friendly Filing System Distribution Year Prior Year FMV, LE, and RMD Amount Name, Age, and Relationship of Designated Beneficiary in Distribution Year When Named? RMD Amount Taken Check if Year of Death Distribution Rev. 9/

187 Creating a Compliance Friendly Filing System Inherited IRA RMD Information (placed in each beneficiary s file upon notification of death, not for spouses that treat as own) Deceased IRA Holder Name Original Account # Date of Birth Date of Death Date Copy of Certified Death Certificate Was Received? Location of Death Certificate if Not Held In File? Death Before or On or After RBD? (April 1 following age 70 1 /2 year) Yes or No (circle) If After, Date Year of Death Distribution Was Satisfied Beneficiary Distribution Option (See Beneficiary Option Charts for Possible Options) Beneficiary Account # Type of Beneficiary (e.g., spouse, non-spouse, qualified trust, nonqualified trust, entity) Sole Beneficiary? Yes or No (circle) If no, what are names and DOBs (if applicable) of other beneficiaries? Names of Beneficiaries with Account Balances Who Have Not Taken Full Distributions as of (date for determining designated beneficiary) Inherited IRA Beneficiary(ies) Date Name(s) and Percentage Rev. 9/

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195 Amendments CHAPTER 9: Amendments Traditional and Roth IRA Amendments Not only is the IRA Custodian/Trustee responsible that the IRA Holder and Beneficiary receives the most current plan agreement, disclosure statement and financial disclosure, they are also responsible to make sure the IRA Holder and Beneficiary ALWAYS has the most current rules, regulations and procedures. This entails an amendment process. Note 1: The IRS officially announced their intention of releasing revised model documents in Rev. Proc in which they have provided some interim guidance for prototype users regarding applying law changes that have happened since Although no amendment deadlines are included in this Rev. Proc., if you are a prototype user who is responsible for IRA amendments you should read this Rev. Proc. so that you know your options for amending your prototype document if you would like your documents to more closely conform to current IRA laws. For example, the notice allows prototype users to amend their documents to reflect statutory changes that are addressed by the notice without affecting their existing opinion letter; however, if they apply for a new opinion letter they must be certain their amendment addresses all law changes that are addressed under the scope of the Rev. Proc. For those who are using the IRS model document (not a prototype based on the model document) there is no need to amend these documents until the IRS mandates an amendment process. Always consult with your prototype provider for all changes and updates. NOTE 2: It was likely that there would be an amendment necessary for The rollover rule changes were significant. So even though the IRS did NOT REQUIRE an amendment, JM Consultants highly recommended an amendment updating all the changes made since your last amendment, INCLUDING the new rollover rule. A good time to do this would be when you send out your Year-end Fair Market Value Statements or Forms Each part of the IRA documentation may need amending. Plan Agreement The most common reason is when legislative action requires it or the IRS amends its Model Document. Some sections of the plan agreement can only be changed by the legislature and the IRS. The language and timing of this amendment is usually clarified in an IRS Revenue Procedure (Rev. Proc.). In addition, portions of the plan agreement can also need amending when the forms vendor and/or the IRA Custodian/Trustee changes or updates the terms of the document. It might also be necessary for such events as mergers, acquisitions, and name changes. Disclosure Statement The disclosure statement needs to be amended more often. Whenever any of the rules, regulations, or procedures change, the IRA Holder/Beneficiary must be given the most current document, both existing accounts as well as new IRAs. Consequently frequent amendments are necessary. Again, an amendment may be required due to changes made by the forms vendor and/or the IRA Custodian/Trustee. Rev. 9/

196 Amendments Financial Disclosure Statement and Financial Projection Financial disclosures and projections only need to be amended if they were incorrect or not prepared to begin with or if the terms of the IRA investment change in the first seven days. So, amending financial disclosures is rare. Amending Procedure This requirement is accomplished by sending periodic amendments. Sometimes they reflect IRS changes. In addition, the IRA Custodian/Trustee must be able to prove that the required amendments were sent and sent timely. There has not been an IRS required plan agreement amendment since The IRS has promised a revised Model Document in the near future, but they have promised it for a number of years now, to no avail. What type of amendment you send depends on the changes being made. The IRA Custodian/Trustee must first review the language of their plan agreement and disclosure. Usually an IRA Holder s signature is not necessary. You will need to consult with your legal counsel. It is usually permissible to send just the changes. However after a few amendments of this type we recommend sending what is called a comprehensive amendment that includes a complete, new plan agreement and disclosure statement. In this way the IRA Holder/Beneficiary will have all of the current rules in one document. And of course be sure to document/archive your amendment process. The IRA Custodian/Trustee must be able to prove the procedure was accomplished in a complying manner. CAUTION: We have one caution in any amending procedure. Since forms vendors have their own contractual language for IRA documents, amending them with another company s form is okay, it is legal, however, please remember an IRA document is a legal contract. Any amendment to it means the IRA is now under the terms of that amendment, not those of the original document. So if you established the IRA with a document from Vendor A and amended it with a document from Vendor B, document B is still the document of record. If you are still establishing IRAs with documents from Vendor A, you now have two DIFFERENT IRA contracts that must be followed separately. Vendor A s terms, especially defaults, and Vendor B s terms and conditions may be drastically different, and you now would have two existing contracts to follow, those that were amended with Vendor B s document and those that are newly established with Vendor A s documents. If this has been your financial institution s practice in the past you should check with your legal counsel as to how to proceed. JM Consultants recommends amending with your current form vendor s document. But remember, these amended IRAs are in compliance, assuming you used a reputable IRA forms vendor, however they may be causing you additional administration and legal questions. Rev. 9/

197 Amendments IRA Amendment Recommendation for 2015 and 2016 Two significant changes occurred that affect Traditional, Roth, SEP and SIMPLE IRAs. First the marriage definition has been changed. If your IRA Plan Agreements and/or Disclosures Statements do not correctly allow for such a change, they must be amended. It depends on the wording in your documents. Some may not need to be amended for this change. The IRA Custodian/Trustee must rely on its forms vendor and it legal and compliance staff for this determination. Secondly, and really even more important, the IRA-to-IRA Rollover Rule was changed. An IRA Holder is allowed only one rollover per year, NOT one rollover per IRA, per year. Again the IRA Plan Agreement and/or Disclosure Statement must be amended for this new procedure interpretation. It is also likely that all IRA documents need to be amended for this change. In addition, it is important that all Rollover Documents contain an explanation of this new procedure. And the Qualified Charitable Distribution has been made permanent. Also, the PATH Act 2016 made a major change, (finally) finalizing the rule concerning Qualified Retirement Account distributions that contained both Pre-Tax as well as Roth amounts. Notice , back in 2014, tried to clarify this issue but further confused it with terms like simultaneous distributions. This finalization aimed to correct those confusions. AND, beginning after December 18, 2015, an individual is able to roll over amounts from a Qualified Retirement Plan (QRP) or an IRA into a SIMPLE retirement account as follows: During the first two years of participation in a SIMPLE retirement account, you may rollover amounts from one SIMPLE retirement account into another SIMPLE retirement account; AND After the first two years of participation in a SIMPLE retirement account, you may rollover amounts from a QRP or an IRA into a SIMPLE retirement account. IMPORTANT NOTE: Whether the IRS does or does not actually state that an amendment is required, they do NOT have to specifically state that because the IRC already states that material changes must be provided to all IRA Holders within 30 days of the effective date of the change. The IRS does NOT define material change so it is left up to the IRA Custodian/Trustee to determine. JM Consultants recommended that ALL CHANGES be provided in the form of an amendment. If an amendment has not yet been sent for these changes, the best time to amend outdated IRA documents is NOW, the sooner the better. If audited by the IRS, any IRA documents not updated could be found to be out of compliance and the IRA Custodian/Trustee would be subject to IRA Penalties. Rev. 9/

198 Amendments If amendments are sent and the IRA documents ARE updated, say in 2017, the IRS is less likely to penalize for past non-compliance. They still could, but likely would not if the documents were now in compliance. IMPORTANT NOTE: The IRS does NOT have a Model Projection for either establishing or amending IRAs! RECOMMENDED AMENDMENT PROCEDURES RECAP Deadline Plan Agreement Must be amended by the date directed by the IRS or by the later of 30 days after the amendment is adopted or becomes effective Disclosure Statement Same as for plan agreement amendment if sent with it. Otherwise send as soon as possible after the changes become effective. IRA Holders Signature Signatures are not required for legislative changes per IRS Model Plan Agreement Article VII for Traditional and SIMPLE IRAs and Article VIII for Roth IRAs. Other changes to the plan agreement and disclosure may require signatures depending on language in your plan agreement and disclosure. Cover Letter Mailing Instructions Documenting the Amendment Including a cover letter generally explaining the changes is an excellent idea and highly recommended. IRA Custodians/Trustees should send the amendment and cover letter to the last known address of the IRA Holder/Beneficiary. Any returned envelopes should be saved in the customer s IRA file for proof that the amendment was properly mailed. Each amendment must be properly documented to prove that an amendment was timely sent. This should be done in one of the following methods: Keep a copy in each IRA file. This can become cumbersome but is the best method. Keep a Master File with a copy of the amendment, a dated cover letter, and a list of IRA Holders/Beneficiaries who received the amendment. A master file can be electronic. Previous Model Plan Agreement/Amendment The previous model document had a revision date of March This amendment incorporated changes made by EGTRRA 2001, and it required existing IRAs to be amended and all new IRAs to be established using the new plan agreement by December 31, Even though this version of the model plan document continues to represent the most current version of the model plan document, there have been numerous law changes that have occurred since this restatement that require piece meal amendments to prototype documents if financial organizations want to make use of the new provisions. Rev. 9/

199 Amendments Disclosure Statements and Amendments Because disclosure statements are intended to provide a plain-english version of what is contained in an IRA plan document, it is generally considered necessary to amend disclosure statements whenever there are changes to the IRA plan document, and even, on occasion when the IRS does not require changes to the plan document, but IRA Holder s would benefit from the information. Amendments Not Related to Law Changes Sometimes a document must be amended because of a change in Custodians/Trustees. In cases of amendments resulting from mergers or acquisitions, state laws may vary regarding the need to have IRA Holders sign a copy of the new governing plan document. However, since it is likely that there will be some changes in the new Custodian s/trustee s document versus the predecessor s document, it is generally a good idea to ask IRA Holders to sign a copy of the new plan document when amending. Other times amendments are needed for changes made by the IRA Custodian/Trustee or the forms vendor. Whatever the reason, IRA Holders and Beneficiaries must always have the most current documents. Amendment Procedures When an amendment must be sent out, it should be sent to all IRA Holders and Beneficiaries with a cover letter explaining what the amendment changes, and whether the customer must sign the amended document or not. All amendments should be stored either in a master file or in each customer s individual file. See the next section for the advantages and disadvantages of each approach. If your IRAs have not been amended for the 2002 requirements, you should amend all of your IRAs immediately. The IRS could assess a $50 per IRA penalty for non-compliance. However, you should always check with your forms vendor to make sure you have amended properly, timely and that you are using the most current IRA documents to establish your IRAs. Master Files vs. Storing In Individual Files Because file space is usually at a premium, most financial organizations opt to store certain IRA related information in a master file rather than individual files in order to conserve space. The master file is also a good place to keep a copy of each amendment that goes out to customers as well as a list of who received the amendment and the cover letter that was sent to clients explaining the purpose of the amendment. Amendment Logs When an amendment master file is used, it is helpful to maintain a log in the master file and in each individual file that notes when amendments have been sent out and to whom. The same log format may be used for the master and individual file, the main difference being that the master file should log every amendment sent by the financial organization, while the individual file should only contain a log of amendments sent to that individual customer (Sample Amendment Log follows) Rev. 9/

200 Amendments Situations that may REQUIRE an amendment Legislative Law Change IRA Custodian/Trustee Procedure Change Merger of Financial Institutions Acquisition of Financial Institutions Financial Institution Name Change Update Files because of UNCERTAIN COMPLIANCE NEW IRS IRA MODEL DOCUMENTS New IRA Model Documents have been published by the IRS. These are the documents that all non-prototype IRA Documents MUST BE BASED ON. However a close review of these documents leave some questions. Traditional IRA Custodial Account Application Form 5305-A Rev. October 2016 (Posted 02/08/17) Traditional IRA Trust Account Application Form 5305 Rev. October 2016 (Posted 02/08/17) First line/space at top of Page 1: Does not have space for indicating an Identifying number, yet instructions still define it as the Social Security Number of the individual establishing the IRA!!!! Article I: References the 2010 IRA Contribution Limits, and then uses $X,XXX instead of actual dollar amounts. It seems odd that they would refer to 2010 with a 2016 update. Roth IRA Custodial Account Application Roth IRA Trust Account Application Form 5305-RA Form 5305-R Rev. October 2016 Rev. October 2016 (Posted 02/08/17) (Posted 02/08/17) Although the Roth IRA Model documents noted above are shown as revised (Rev.) there was no change to these documents. In fact they still only include contribution rules and limits for pre-2009 years. Again that seems strange since they were revised in 2016 and posted in So what does this mean for the IRA Custodians/Trustees? Likely, not much! It will be interesting to see if the discrepancies listed above will be corrected. After that, new IRA accounts will likely be able to be established with existing documents because nothing substantial was changed and it seems unlikely an IRA could be established with $X,XXX in the document. Rev. 9/

201 Amendments Since most IRAs are established with Forms Vendor documents, all IRA Custodians/Trustees should refer to their form vendor. The IRS has NOT required amendments for these slight changes, but NEW IRAs must be established with ths new language. Rev. 1/

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206 Amendments Questions and Answers Q-1 We have discovered that we have never sent out complying Financial Projections. Can they be amended? What must be done? A-1 First, be aware that the IRS has no provisions to undo this compliance error. So what ever is stated here, is merely a suggestion that might allow for reduction or abatement of the $50 per IRA penalty. JM Consultants recommends that a correct Financial Projection be sent to each IRA Holder. A letter of explanation may need someone in the PR department to gloss over the non-compliance part, but usually something like an update might be sufficient. Each projection should be individualized using current information and ages. If there are a number of IRAs, this can certainly be a problem time-wise and expense-wise, but remember you are trying to reduce or abate a $50 penalty per all IRAs ever established, not just the current IRAs! If that just seems too cumbersome or unwieldy, a second possibility, but one that might have lesser success, is to send out one, generic Financial Projection to all IRA Holders with a very clear description of how to perform their particular calculation, with a good example. Again, there really is nothing that is guaranteed to reduce or abate the potential IRS penalties. But if any of these suggestions are used, there is no hope that the penalties will be reduced or abated if you have not documented and initiated a procedure of providing complying Financial Projections when traditional, SEP and SIMPLE IRAs are established. Q-1A Does your suggestion remain the same in the case purchased or merged financial institutions where it is believed Financial Projections have not been provided or provided incorrectly? A-1A Yes, the suggestions above apply regardless of the reason the Financial Projections were not provided in a complying manner. Q-2 Are amendments required for Inherited IRAs? A-2 Yes, amendments must be sent for Inherited IRAs whenever the IRS rules, regulations and procedures change and whenever the Inherited IRA Custodian/Trustee or the forms vendor changes the terms of the Inherited IRA Plan Agreement or Disclosure Statement. Rev. 1/

207 Amendments Amendment Log (To be Stored in Master File with Copies of Amendments with List of Recipients in Master File) Date Amendment Sent Type of IRA Amended Form Number/ Revision Date (Attach Copy with list of Customers who Received) Purpose (e.g., GUST (law change) or Merger (internal change)) Rev. 9/

208 Amendments [Date] SAMPLE AMENDMENT LETTER Dear IRA Customer, Recently, in the interest of assuring the best possible service for our IRA customers, we hired independent auditors to perform a review of our IRA documentation and processing procedures. Upon completion of the audit, they recommended that we amend all IRAs to make sure all of our IRA Holders have the most up-to-date IRA documentation. In addition it was recommended that we give all of our IRA Holders a reminder to review their IRA Beneficiary Designations. In the event of an IRA Holder s death, a properly completed beneficiary designation assures that the IRA assets will go directly to your desired heirs. So it is important to periodically review these to make sure they still reflect your current intentions. If you have more than one type of IRA with our financial organization, you will receive a separate amendment for each IRA. According to our files you currently have a [Traditional, Roth SEP, SIMPLE] IRA. If this is not correct, please contact us immediately so we can correct our system information. If is it correct, we ask you carefully review the information on the form including the beneficiary information, sign and date it, returning one copy of the signature page to [Name of Financial Institution] in the enclosed, self-addressed, postage paid envelope. Please keep the remaining documentation for your files. Because of the importance of this amendment, we will be following up with customers within two weeks of this mailing if we have not received a signed ad dated signature page. If you have any questions about this process please do not hesitate to call us at [phone number]. Thank you for your cooperation in helping update your IRA files. Sincerely, [Name, Title, etc.] Rev. 9/

209 CHAPTER 10: Self-Directed IRAs Self-Directed IRAs In a true reading of the term Self-Directed IRA, almost all IRAs are self-directed, meaning the IRA Holder/Beneficiary directs the investments of the IRA. If a certain financial institution does not have or administer the type of investment the IRA Holder/Beneficiary wants, he or she is free to go to another financial institution. However, the IRA Industry has given the term self-directed a different meaning. For IRAs, self-directed means the IRA Custodian/Trustee allows the IRA Holder/Beneficiary to invest in non-cash assets, not just savings accounts and CDs that the financial institution offers. Investment transactions associated with self-directed IRAs can be quite diverse and are often complex. The purpose of this section is to address some of the general concerns associated with self-directed IRAs, including a brief introduction to prohibited transactions, real estate investments, and unrelated business taxable income. Prohibited Transactions The tax code addresses prohibited transactions in terms of what an IRA Holder, Beneficiary or a disqualified person can or cannot do with regard to an IRA. A person or entity is considered disqualified if they are any of the following: A fiduciary of the plan A person or entity providing services to the plan An employer, any of whose employees are covered by the plan An employee organization, any of whose members are covered by the plan. Any direct or indirect owner of 50% or more 1 of any of the following (if an employer or employee organization described above): Combined voting power of all classes of stock of a corporation Capital or profits interest of a partnership Beneficial interest of a trust or unincorporated enterprise A member of the family of any of the individuals listed above, including: Spouse Ancestor Lineal descendent Spouse of a lineal descendent 1 The IRS has the authority to use any percentage they deem applicable, even less than 50%. Although the preceding list may be helpful in identifying individuals who are obviously disqualified to partake in certain IRA transactions, it is not exhaustive or complete. One area of particular concern is the area of indirect prohibited transactions, whereby a person who is not normally considered a disqualified person may become one if an IRA Holder/Beneficiary or other fiduciary influences that person to engage in a transaction that they would not engage in the absence of said influence. Rev. 9/

210 Self-Directed IRAs Examples of transactions that are considered prohibited include the following acts between an IRA and a disqualified person: Borrowing or lending money Receiving unreasonable compensation for services Purchasing life insurance Pledging of IRA assets Buying and selling property The acquisition of collectibles The tax consequences associated with prohibited transactions are serious. Generally, if an IRA Holder or his or her beneficiary engages in a prohibited transaction, the IRA ceases to be treated as an IRA on the first day of the year in which the prohibited transaction occurs. Not only does the IRA become fully taxable, it also becomes subject to prohibited transaction penalties ranging from 15% up to 100% if steps are not taken to timely correct the transaction. Example: A PT was made in 2001 when the IRA Holder was age 55. It was not discovered/determined until 2014 when the IRA Holder is now age 68. How is it reported concerning tax and penalty? Solution: The IRA ceases to be an IRA on January 1 of the year the PT occurred, even if the PT had occurred on December 31 of that year. So in this example a distribution is reported as of January 1, The distribution, IRS Code 5, would be taxed and penalized in All IRA entries since January 1, 2001 must be corrected with all reports and statements also corrected so that no IRA transaction is reported after January 1, Then too, the Internal Revenue Code and Regulations further confuse the issue by stating that a prohibited transaction can be caused directly or indirectly. The indirectly opens up a wide area for interpretation by the IRS. And although it is generally not the responsibility of the IRA Custodian/Trustee/Administrator to determine whether an investment or transaction is a prohibited transaction, the IRA Custodian/Trustee/Administrator CAN NOT KNOWINGLY ALLOW A PROHIBITED TRANSACTION TO OCCUR without also subjecting itself to IRS penalties. Reporting Prohibited Transaction Procedure A December 15, 2009 PT is discovered on July 1, It makes no difference what the amount of the PT was, the IRA ceases to be an IRA on January 1, 2009! What must be reported? A January 1, 2009 (deemed) distribution is reported on Form 1099-R, IRS Code 5, at the FMV on January 1, 2009, likely the FMV from December 31, All other 1099-Rs, 5498s and FMV Statements from January 1, 2009 to the present must be corrected to zero! Rev. 9/

211 Self-Directed IRAs Since any 2015 transactions have not yet been reported, they must be reversed. All Contributions reported in 2009 through the present, must be zeroed out. All 5498s must be corrected to zero, whether contributions, rollovers, recharacterizations or conversions, ALL CONTRIBUTIONS. All Distributions taken during that period must also be zeroed out and all 1099-Rs must corrected to zero. ALL December 31 FMV Statements must be amended to zero balance. After all the reports and statements are corrected, it will be as if the IRA ended on January 1, There must be no reported transactions after January 1, All previously filed reports and statements must be corrected showing zeros. Whatever balance remains in the IRA is distributed to the IRA Holder. The IRA is closed. Rev. 9/

212 Self-Directed IRAs Reporting of Deemed Distribution 1/1/2009 FMV 1/1/09 FMV 1/1/ IRA Holder 5 X 0 Prohibited Transaction 0 X IRA Disqualified 1/1/ X Rev. 9/

213 Self-Directed IRAs Correcting Previous Forms X X 0 0 IRA Ceased 1/1/ A CORRECTED Form 5498 must be prepared for each year that was previously filed zeroing out all reported amounts. Rev. 9/

214 Self-Directed IRAs Correcting all previous1099-rs * 0 Prohibited Transaction 0 ONE FORM FOR EACH CODE USED * A Form 1099-R must be prepared for each year one was previously filed, including multiple ones if different codes were used. Rev. 9/

215 Self-Directed IRAs Special Concerns Regarding Real Estate Investments Because prohibited transactions can be indirect, as well as direct, it is impossible to provide a list that covers every conceivable situation that might result in a prohibited transaction. However, the following list provides some common prohibited transaction concerns and guidelines relating to real estate transactions in an IRA. 1. Real estate must be for investment purposes only. 2. The IRA Holder (or any other disqualified person) cannot live on the real estate or use it for any purpose, for any period of time not even one day. 3. Real estate held in an IRA cannot be rented to: a. Parents b. In-Laws c. Children d. Spouses e. Related Businesses 4. The IRA may not be used as collateral to purchase the property. 5. Vesting must be as tenants in common (undivided interest). 6. Any loans to an IRA must be non-recourse loans. These may be provided by hard-money lenders as non-conforming portfolio loans, although community banks that specialize in real estate construction also sometimes make such loans. a. The IRA Custodian/Trustee can NOT lend money to the IRA 7. All rental income and expenses must flow through the IRA. They must either go directly to the IRA Custodian/Trustee, a third-party administrator, or a property manager for deposit into the IRA. 8. An IRA Holder may act as property manager if: a. All rent checks are made out to the IRA, not the IRA Holder directly. b. Repairs may be arranged by the IRA Holder, but not performed by the IRA Holder. i. The client cannot be compensated for managing the property. ii. All expenses must be paid through the IRA, not by the IRA Holder directly. and reimbursed 9. An IRA Holder cannot purchase real estate from his or her IRA. If they want to have the property for their own personal use, they must take a distribution of the property, which must be valued at fair market value. Therefore, before any distribution of real estate occurs from an IRA, a full appraisal should be performed for distribution reporting purposes. 10. An IRA Holder can not sell any property to his or her IRA. No exception! Rev. 9/

216 Self-Directed IRAs Fees Fees are another area of concern with respect to prohibited transactions. Typically, there are three types of fees associated with IRA operations: administrative, commission or sales, or a combination of both. A description of each of these fees and special prohibited transaction concerns associated with them follow. Administrative Fees Administrative fees are fees associated with maintaining an IRA. Some examples of administrative fees include transaction fees (e.g., rollover, transfer, distribution, account closing, etc.), as well as investment management. Administrative fees may be paid from outside of the IRA, or they may be debited from the IRA directly. If an IRA Holder pays an administrative fee with non-ira assets, they may be eligible for a deduction for the fee on their income tax return. However, if they take a distribution from the IRA to reimburse themselves for paying the fee out-of-pocket, the withdrawal will be treated like a distribution from the IRA for all tax purposes (i.e., penalties and taxes may apply). If the fee is paid from IRA assets, there will be no taxes on the amount paid as a fee. An IRA Holder may not reimburse the account for any fees paid directly by the IRA and any attempt to do so will be treated as a reportable contribution to the IRA subject to statutory, annual limits. Sales Fees and Commissions Fees associated with the purchase or sale of an investment are not considered administrative fees and must be paid directly from an IRA and may neither be deducted on an IRA Holder s income tax return, nor reimbursed to the IRA. They are part of the purchase cost or sales proceeds. Combination Fees Sometimes administrative and sales fees are bundled together. Such combined fees are sometimes referred to as wrap fees. Although the IRS has reviewed these fees for Qualified Retirement Plans, they have not provided any guidance for IRAs. For Qualified Retirement Plans, the IRS has indicated that if the component of a combined fee that is associated with administrative services can be identified, that portion may be treated as an administrative fee for the purpose of determining payment options. In cases of uncertainty as to whether to treat a fee as an administrative or a sales fee, a Private Letter Ruling may be requested from the IRS. Fees are never a reportable transaction. Rev. 9/

217 Self-Directed IRAs Unrelated Business Taxable Income (UBTI) The purpose of an IRA is to generate income for retirement, and when that is the primary purpose of the investment it is generally not subject to income taxation while it is held in the IRA. However, when an IRA invests in certain businesses, the net income generated by the normal operation of the business not considered to have the primary purpose of generated income for retirement (even though it does generate income for retirement). Such income is considered unrelated business taxable income (UBTI) rather than investment income for reporting and taxation purposes. UBTI is subject to taxation at the trust income tax rate. An IRA, when holding such assets, must pay income tax on UBTI. A related taxation and reporting issue concerns debt-financed real estate within an IRA. This usually becomes an issue in cases where the income from cash flows on an office building or an apartment building is used to get a nonrecourse loan from a commercial lender to purchase property for an IRA. Because some of the financing for this investment is coming from outside the IRA, a portion of the profits on such an investment will be taxable as income, sometimes referred to as debt financed income (DFI). When an IRA holds investments that are subject to UBTI or DFI, the IRA Custodian/Trustee is responsible for filing a Form 990-T for the investments to report the UBTI. They can pass that into the IRA Holder, however the IRA Custodian/Trustee remains responsible for it. Fair Market Value Issues One of the thorniest ongoing problems with self-directed IRAs is associated with the annual valuation requirement that applies to all IRAs. This is not a problem when the assets held in an IRA are commodities that are traded on an open market and the value of the asset is readily available. When a self-directed IRA includes assets such as limited liability companies or partnerships, businesses, real estate, special expertise is required to properly value these assets and a good faith effort should be made to find someone with valuation expertise to value them because proper valuation plays an important role in the taxation of distributions of assets that are taken in kind, as well as in calculating RMDs, since the prior year-end value of an IRA is used in calculating how much must be taken by an IRA Holder each year. Although it is the financial organization s responsibility to properly report FMV, it is not mandatory that they absorb the cost of hiring individuals to make such special valuations, and it is highly recommended that financial organizations that allow difficult to value assets stipulate to IRA Holders that any such costs associated with these required valuations be paid from IRA assets. They can NOT be paid with funds from outside the IRA. Please note additional earlier comments concerning the 2014 and 2015 Forms 1099-R and NOTE: Be sure to carefully review the procedures for the use of IRS Code K found in chapter 2. Rev. 9/

218 Self-Directed IRAs IMPORTANT NOTE JM Consultants has been getting an inordinate amount of consulting questions about the Fair Market Value (FMV) for self-directed IRAs. So, to be clear, IRA Consultants and Trustees MUST report the FMV for December 31 for each year for all IRAs on an annual basis. There is no exception! It is their responsibility per the IRS rules, regulations and procedures. That means an independent valuation must be obtained each year. Easy appraisal methods include the use of generally accepted market listings like the ones for stocks, bonds, mutual funds, etc. The more difficult valuations include those for real estate, privately held assets like LLCs, partnerships, private stocks, etc. But the valuations MUST BE OBTAINED. While the IRS delayed the mandatory reporting for certain hard to value assets in 2014, it is now a requirement for all reporting since It would seem this means the IRS will be paying more attention to the FMV of IRA assets. So JM Consultants believes it is best that the IRA FMV is adequately documented as soon as possible every year end. And if the FMVs are received late, the year end reports MUST BE AMENDED! Please also refer to the discussion about the new 1099-R distribution Code K in Chapter 2. Now this is sure to cause potential problems and more administrative work. There is nothing that states a fee for this can not be charged. And any cost of obtaining the FMV can be paid out of the IRA. However, as with all IRA fees, the fees must be fully disclosed and projected when applicable. Rev. 9/

219 Self-Directed IRAs Questions and Answers Q-1. We have two IRA Holders with self-directed IRAs invested in real estate. One is invested through an IRA-LLC and one is invested directly through the IRA. They both have used personal funds to pay for investment related expenses. In fact, one used the IRA funds for personal expenses. What must be reported? A-1. First it must be remembered that if a transaction is not allowed in an IRA, it is NOT allowed in an IRA- LLC. IRA rules can not be bypassed by using an IRA-owned entity like an LLC, partnership or any other entity. It also makes no difference what the expense was for. So the answer is the same for both situations. Personal funds can NOT be used to enhance any IRA investment nor can IRA funds be used for personal expenses, even if related to the investment. When the IRA Custodian/Trustee discovers this situation a 1099-R must be issued for the amount of funds used in this manner. In addition, a 5498 must be issued in the same amount as a contribution to the IRA. If that causes an excess contribution, it must be so corrected. In addition, the IRS could disqualify the IRA for misuse of IRA funds. NOTE: It is important to remember that the IRA Custodian/Trustee is responsible for reporting ALL transactions in an IRA. It is imperative that the IRA Holders inform the IRA Custodian/Trustee of all transactions made outside the IRA. IRA Custodians/Trustees should get written verification from all IRA Holders, especially those with self-directed IRAs, that all transactions have been accounted for. Q-2 Our IRA Holder has received notice that one of his stocks in the Self-Directed IRA has been declared worthless. What do we do? A-2 Technically, you need to revalue the stock in the IRA to zero. Reporting it that way because it remains an IRA owned stock. However, JM Consultants recommend the following procedure be considered, with of course, the IRA Holder s approval. Reduce the worthless stock to a value of $1. Then distribute it in kind, to the IRA Holder, again at $1. Make sure to send the stock to the proper registrar so that the ownership is changed. This must include some type of assignment of the stock by the IRA Custodian/Trustee to the IRA Holder, personally. Report the distribution. Keep all paperwork! It is now a personal asset. Why do this? If somehow the stock suddenly has value, and this happens more than you might believe, any income situation is now personal, not within the IRA, and the IRA Custodian/Trustee does not have to recreate the account/asset in the IRA. The IRA Holder takes care of it through his personal tax return. Q-3 We currently do NOT administer self-directed IRAs. What do we need to do to start? A-3 Your IRA Plan Agreement and Disclosure Statement must be reviewed to see if it allows such investments. If not you need to check with your forms vendor to obtain such IRA Documents. Then, once you have decided what assets you will allow, it s just a matter of administering the IRA, following the guidelines in this Reference Manual. Rev. 9/

220 Self-Directed IRAs Q-4 My bank s board of directors have Bank Stock in their IRAs. Is this a problem? If so, how can it be corrected? A-4 Yes it is a problem. The IRS and DOL ruled over 30 years ago that Owners, Officers, and Directors can NOT have their bank stock, or affiliated stocks, bonds, etc. in their IRA. It makes no difference where the IRA is, it is the stock in an IRA that makes it a PT. There is no way to correct it. It is considered a PT like any other PT so the IRA ceased to be an IRA on the day the stock was purchased. So the IRA is considered distributed as of January 1 of the year the PT occurred, including the stock, at FMV. The stock cannot, at this point, be sold. Your bank s legal counsel should be informed of this problem and potential penalties involved. Rev. 1/

221 Internal IRA Audit CHAPTER 11: IRA Audits Do you need an Internal IRA Audit? There are many reasons why a financial organization should consider doing an internal IRA audit including: Changes in personnel Mergers and acquisitions General quality assurance checking Generally, you can safely assume that if you ve never performed an internal IRA audit, or it s been a long time since you performed one, you will benefit from one. What should you expect from an Internal IRA Audit? If you are like most financial organizations, you will probably find a number of issues, including: Reporting errors Incorrect completion of forms Missing amendments Misapplication of IRA rules Missing documentation However, it is far better to find these problems as early as possible, because many of them are correctable, and the sooner you correct them and educate personnel regarding the common problems that are found, the fewer problems there will be in future audits. Are you ready for an internal audit? The three forms contained in this chapter are provided to help you check whether your IRA operations are in compliance. The Compliance Checklist documents the forms you currently use, as well as investments, and compliance procedures. The Master File Audit documents compliance with major IRA requirements such as CIP, reporting, and document amendments. The Individual File Audit documents findings in individual customer files, particularly with regard to opening documents and transactions. In preparation for an official audit, it is highly recommended that an internal audit randomly spot check at least 10 percent of each type IRA held by the organization. Check the larger IRAs and the owners with the most recent transactions. Check all Financial Institution Owners, Officers, Directors and Employees. Rev. 9/

222 Internal IRA Audit NOTE: This should be done whether your files are hard copy or electronic. Record Retention The IRS requires that records be retained as long as the IRS has a legal right to request them, which is technically forever. Any decision to destroy IRA documentation should be made in consultation with your organization s tax and legal departments. Recent guidance from the IRS indicates that electronic information returns such as Form 1099-R and Form 5498 should be kept for at least five years either in a paper format or in an electronic format that can be used to reproduce what was sent to the IRS. However, your organization s compliance department should consult the IRS District Director in your location regarding any questions related to the retention of IRA related returns (both paper and electronic) and a written record retention policy should be maintained. Please note that the length of time a specific tax document should be maintained will vary, and some records should be maintained indefinitely, such as records of plan amendments, and any documents relating to a potential criminal investigation. As pointed out earlier in this manual, the IRS has given no direct specifications for IRA Custodians/Trustees. Consequently it is imperative that IRA Custodians/Trustees rely on their own legal, tax and compliance counsel. One important item to mention concerning the electronic archival procedures has to do with the ability for the auditor, internal, external or IRS to have access to the electronic records. Preparation for an Outside Audit Generally, an outside auditor will tell you the records to which they need to have access at least a week before arriving on location. Since independent auditors generally have a limited time on location, it is important to have these records available or readily accessible when they arrive. Therefore, it is useful to have all Form 1099-Rs and Form 5498s submitted during the last two years. These should be ready for the auditor s review when they arrive. Taking care to have the materials they request ready will help to maximize the time the auditor can spend finding potential compliance problems and will help your organization get the most value out of its audit. And of course, the IRS will demand access. Please note, also, that audits may be customized to your financial organization s particular needs, but the more areas you would like reviewed, the more time it will take to perform an in-depth audit. The following forms show the key compliance areas that an auditor may review. Depending on what sort of an audit you request, the auditor should evaluate all of the areas you ve requested they look at and provide a report explaining what the compliance requirements are for those areas of concern, any compliance concerns that were found in your files or your procedures, and possible means for correcting those issues. Note: Information on the audit services performed by JM Consultants is available upon request. Rev. 9/

223 Internal IRA Audit Why an outside auditor? An independent third-party outside auditor may be a good choice. They should be the following: Experienced in auditing IRAs of all types giving them an edge in what to look for in the most efficient way possible. Unbiased so they are less likely to overlook small errors Most familiar with current rules, regulations and procedures Best able to offer ways to correct errors Best able to offer ways to correct procedures Able to perform the audit with as little disruption of your personnel as possible Discreet and Confidential Able to customize it to certain areas, IRAs, Inherited IRAs, certain transactions, etc. Able to look for most usual non-compliant transactions Rev. 9/

224 IRA Compliance Checklist Documenting Current Forms and Procedures Internal IRA Audit CIP Procedure Transaction Forms Internal Transaction Codes Documentation Requested Required Documents Plan Agreement Disclosure Statement Financial Disclosure Transaction Type Contribution Distribution Withholding Notice Direct Rollover Request Transfer Request Form Conversion Form Recharacterization Request Excess Contribution Other Other Other Other Other Other Transaction Type (Contribution) Traditional current year Traditional prior year Roth current year Roth prior year SEP contribution SIMPLE contribution Traditional IRA Rollover Roth IRA Rollover Direct rollover (Traditional) Direct rollover (Roth) Recharacterization (From Roth to Traditional) Recharacterization (From Traditional to Roth) Transfer contribution Military Catch-up Pension Catch-up Age 50 or Over Catch-up Other Other Other Other Other Other Location Where Stored Documents Currently Used Forms Currently Used Internal System Code Rev. 9/

225 Internal IRA Audit Rev. 9/

226 Internal IRA Audit Rev. 9/

227 Internal IRA Audit Notice CIP Documentation Is there a written CIP policy? What Documentation is requested to prove identity of new customers? If an existing customer opens a new IRA, or Inherited IRA, how is it noted that the CIP requirements have been previously satisfied? Regulatory Amendments Are there copies and cover letters for the following amendments for plan agreements (PA) and disclosure agreements (DA) if required? Rev. 9/

228 Internal IRA Audit Individual File Audit Are separate IRA types for same IRA Holder filed in separate files? Opening Documents Is there evidence that the customer s plan document has been amended for all required amendments? If not, list amendments that are missing. Beneficiary Designation Form (Optional, but highly recommended) Primary/Secondary Beneficiaries Properly Identified? Signed? Witnessed? ( If necessary) Spousal consent if IRA Holder is married and someone other than the spouse is named in a community or marital property state? Contributions If multiple contributions of the same type are made in the same tax year, attach sheet with dates and amounts of contributions by contribution type and the year they are to be reported according to contribution paperwork. Regular or Spousal Contribution form(s) completed, dated and signed? If made between January 1 and April 15 Current Year Amount Prior Year Amount Does amount exceed the normal annual contribution limit? If yes, is the excess amount a catch-up contribution? If no, has the excess amount been corrected? Reported Properly on Form 5498? If customer has both a Traditional and Roth IRA at your financial Organization, check to be sure the aggregate contributions between the two accounts do not exceed annual limits? Rev. 9/

229 Internal IRA Audit Indirect Rollover from a Qualified Retirement Plan Contribution form completed, dated and signed Rollover certification completed, dated and signed Does certification contain an irrevocable election? If not, how is the requirement satisfied? Copy of indirect rollover check in file? Date rollover check was received Amount of Rollover Check Reported Properly on Form 5498? Direct Rollover from a Qualified Retirement Plan Contribution form completed, dated and signed Direct rollover request form completed, dated and signed Does rollover request contain an irrevocable election? If not, how is the requirement satisfied? Copy of rollover check or wire transfer notification in file? If a check, is it from the plan administrator of the qualified retirement plan? Date direct rollover check or wire transfer was received Amount of Rollover Check Reported Properly on Form 5498? Transfer In Transfer request form completed, dated and signed Copy of transfer check or wire transfer notification in file? If check, is the check from the transferring bank in the name of the IRA? Date direct rollover check or wire transfer was received Amount of Transfer Check Date deposited Verify transfer was NOT reported on Form Recharacterization Recharacterization request form completed, dated and signed Copy of recharacterization check or wire transfer notification in file if from another institution? If check, is the check from the transferring bank in the name of the IRA? Date recharacterization funds were received Amount of Recharacterization Check Date deposited Reported Properly on Form 5498? Rev. 9/

230 Internal IRA Audit Distributions/Withholding IRA Holder Distributions Is there a completed and signed withdrawal statement for each withdrawal? If withdrawal is coded as other than an early or regular distribution, is supporting documentation in file? Are withholding elections kept in chronological order and is the latest election always applied to each distribution? Has withholding been properly applied? Does Form 1099-R properly report the distribution reason given on the withdrawal form and properly reflect withholding. Have fees and investment penalties been properly applied and NOT reported? If over 70 1 /2, are RMD notices sent annually? If RMD was calculated, was it calculated properly? Beneficiary Distributions Is there a certified copy of the IRA Holder s death certificate on file? Were beneficiaries inherited portion properly allocated to a beneficiary account ASAP? Is there a completed and signed withdrawal statement for each beneficiary withdrawal? Has withholding been properly applied? Does Form 1099-R properly report the distribution code 4, and does it properly reflect withholding. Have fees and investment penalties been properly applied? Fees Are administrative fees allowed to be paid out-of-pocket or out of IRA? Are sales/commission fees always paid out of the IRA? Rev. 9/

231 Internal IRA Audit Here is a sample JM Consultants Pre-Audit checklist. It gives you an idea of what will be reviewed whether paper or electronic files. Pre-Audit Checklist 1. Access to all IRA, HSA, and CESA files, electronically and/or hard copy 2*. Availability to ALL of last two years IRA Forms 1099-R and 5498 HSA Forms 1099-SA and 5498-SA CESA Forms 1099-Q and 5498-ESA I RA, HSA and CESA Year-end Fair Market Value Statements 3.* Complete list of IRA, HSA, and CESA Accountholders List of last two December31 year-ends with totals Most current complete listing (Trial Balance) 4. Copy of all current IRA, HSA and CESA Vendor Forms being used 5. Access to all Master Files 6. List of all investments used/allowed to fund IRAs 7. Required Minimum Distribution Procedures and Notices. 8. *List of last two years deceased IRA, HSA, CESA Accountholders/Beneficiaries Copy of procedures for Inherited IRAs, HSAs, and CESAs 9. List of special transactions last two years Divorces, IRS Levies, etc. 10. *List of current year conversions, recharacterizations, excess corrections, Transfers, Rollovers, and Direct Rollovers, 11. *List of any Automatic Contributions and Distributions 12. Copy of your Financial Institution s Fee Disclosure 13. List if all Financial Institution (and affiliates) Owners, Officers, Directors and Employees 14. Copy of all IRA, HSA, and CESA reports available 15. Any special concerns and questions 16. List of past training for all IRA, HSA and CESA personnel Access to all IRA, HSA and CESA Procedure Manuals 17. Copy of your Financial Institution s CIP Procedures Disaster Relief Procedures Archival and File Destruction Procedures 18. List and copies of all Federal Withholding Notices * All printed lists need to be in some identifiable sorting order not random. Please Note: The auditor will usually need internet availability/wireless access. Rev. 9/

232 Internal IRA Audit Rev. 9/

233 CHAPTER 12 Excess Contributions Background The term excess contribution can be a little misleading. Although there are some contributions that are true excesses in the sense that the contributor was not eligible to make a contribution to an IRA, or contributed more than the maximum amount allowed under the law, any contribution made to an IRA can be removed as an excess contribution as long as it is removed by the tax filing deadline plus extensions, and as long as it is removed with any income it earned while the contribution was held in the IRA. One common situation where an eligible contribution, even though it is in compliance, is removed as an excess contribution is the case where a Traditional IRA contribution is found to not be eligible for a deduction. Such a contribution, although eligible to be made, can be removed under the excess contribution rules.so even though it is NOT an excess contribution, the same procedure to remove it is used as if it was an excess. This chapter covers the four basic steps to removing excess contributions from IRAs: Step One - Determining types of Excess Contributions and Rules for Removing Them Step Two - Select and Fill Out the Proper Transaction Forms Step Three - Follow your Internal Software Reporting Procedures Step Four - Route and File Paperwork According to Your Organization s Policies Background information and what you need to do to complete each step follows. Excesses and Recharacterizations STEP ONE Determining types of Excess Contributions and Rules for Removing Them Sources of Excess Contributions As was mentioned in the introduction, any contribution can be removed for any reason under the excess contribution rules as long as it is removed before the deadline for correcting excesses (generally October 15 following the tax year for which a contribution is made). However, besides excess removals that are optional, there are also cases where an IRA Holder must remove a contribution or be penalized because he or she was not eligible to make it. Some possible causes of true excesses include: Insufficient earned income to justify the contribution made Roth contribution made when ineligible to contribute due to exceeding income limits Individual contributions made to a Traditional IRA starting in the 70 1 /2 year or later Ineligible rollover amounts (RMDs, SEPPs, QRP hardship distributions, etc.) Ineligible rollovers that exceed the 60-day limit and that are not eligible for an extension. Second rollover within one year Contributed more than the statutory annual limit Rev. 9/

234 Excesses and Recharacterizations Note: Although a person might want to remove a contribution to an IRA because they find out it is not eligible for a deduction; a nondeductible IRA contribution is not considered a true excess, although they may be removed under the excess contribution rules. Although removing non-deductible contributions in this manner is a common situation, it is not the only situation that applies. An IRA Holder can remove any current IRA contribution for any reason, just because they want to. So Roth and Traditional annual contributions, that are NOT true excess contributions, can be removed in this manner. Corrections of Excess Contributions Made before October 15 deadline (Unless a weekend or a holiday) Any contribution may be removed before the October 15 (October 15, 2015 for 2014 and October 17, 2016 for 2015 excesses) deadline for any reason if: 1. The contribution plus the net earnings attributable (NIA) are removed, and 2. The distribution is reported on Form 1099-R. Many worksheets that calculate net income attributable (NIA) make it difficult to understand the basic principles behind the calculation because the essential logic behind the calculation is buried in references to a multitude of adjustments to the opening and closing balances. However, when you strip away the references to these adjustments, it becomes clear that the calculation is basically a simple ratio equation that answers the question, What percentage of the IRA s earnings are attributable to the excess contribution, the amount being removed, rather than attributable to the starting balance or other contributions that have been made to the IRA during the IRA calculation period. This percentage, when multiplied by the Total Net IRA Earnings (i.e., the difference between the ending balance plus all distributions made from the IRA, minus any penalties and the starting balance, plus all contributions), is the net income attributable to the excess contribution. Follow this procedure and this formula should be easier: Step #1 Lookup or Calculate the needed data (Excess) Contribution amount being removed Calculation period 1 Starting Balance 2 All additions to the IRA during the period including fees, charges, transfers, distributions, accrued earnings, etc. Ending Balance 3 All subtractions from the IRA during the period Step #2 Calculate the Adjusted Starting and ending Balances Step #3 Calculate Total Net Earnings 4 Rev. 9/

235 Excesses and Recharacterizations Step #4 Step #5 Step #6 Calculate Percentage of Earnings Attributable to (Excess) Contribution Calculate NIA for (Excess) Contribution Remove (Excess) Contribution with NIA 1 The calculation period is the time from the date of the deposit of the contribution that is being removed until the day it is actually being removed. 2 This is the (FMV) balance in the IRA before the contribution being removed was received plus all additions including contributions, transfers, rollovers, recharacterizations, accrued earnings, etc. from the time the contribution being removed was received until it is being removed. 3 This is calculated by subtracting the Adjusted Starting Balance from the Adjusted Closing Balance 3 4 This is the (FMV) balance in the IRA before the contribution is being removed plus all distributions and subtractions including transfers, recharacterizations, etc. from the time the contribution being removed was received until it is being removed. In addition some IRA manuals show the calculation in another manner, which also works: (Excess) Contribution being removed X Adjusted closing balance Adjusted opening balance Adjusted opening balance = NIA Let s take a look at some scenarios that require some adjustments to the starting and closing balances to properly calculate NIA (worksheet follows). Rev. 9/

236 Excesses and Recharacterizations Note: This example is for illustration purposes only. Example 1 - Excess Removed Before Tax Filing Deadline Plus Extensions One November 1, 2016, Lotta Cash made a $4,000 contribution to her Traditional IRA. When Lotta calculated her 2016 taxes in April 2017, she realized that she only had $1,000 in earned income in 2015, which meant she had contributed $3,000 too much to her IRA in Lotta drops by the financial institution where she made the excess contribution, and tells the IRA specialist she would like to remove $3,000 of the $4,000 she contributed on November 1, In order to calculate the NIA for this removal of excess, the IRA specialist knows she will need to have: the IRA starting balance (the balance immediately before the excess was contributed), contributions, transfers, or recharacterizations to the IRA between the time the initial excess was made and the current day, including accrued earnings, the current balance, distributions, transfers, or recharacterizations out of the IRA between the time the initial excess was made and the current day any fees and penalties associated with distributing the excess Step #1 - Look Up Information for Calculation IRA Holder Name: Lotta Cash Excess Amount to Be Removed: $3,000 Starting Balance: $13,000 (immediately prior to Nov. 1) Contributions, Transfers, Recharacterizations In: $4,000 (November 1, 2016) Closing Balance: $13,000 (prior to excess correction) Distributions, Transfers, Recharaterizations Out: $5,000 (transfer out) Fees Associated With Distributions of Excess: $0 Step #2 - Calculate Adjusted Starting Balance and Adjusted Ending Balance Starting Balance Plus Adjustments Starting Balance $13,000 Contributions + $4,000 Closing Balance Plus Adjustments Closing Balance $13,000 Transfer +$4,500 Fees -$0 Adjusted Starting Balance $17,000 Adjusted Closing Balance $17,500 Rev. 9/

237 Excesses and Recharacterizations Step #3 - Calculate Total Net Earning on IRA Adjusted Closing Balance - Adjusted Starting Balance = Total Net Earnings on IRA (NIA) Or $17,500 - $17,000 = $500 Step #4 - Calculate Percentage of Earnings Attributable to Excess Contribution [Excess Contribution Adjusted Starting Balance] = % of Earnings Attributable to Excess Or $3,000 $17,000 = (should calculate to at least five decimal places) Note: If more than one contribution is made during a year, the last contribution made is deemed to be the first one distributed to satisfy the excess. Step #5 - Calculate NIA for Excess [% of Earnings Attributable to Excess] x [Total Net Earnings on IRA] = NIA x $500 = $88.24 NIA Step #6 - Remove Excess Contribution with NIA, and Code Appropriately for Distribution Reporting After depositing the excess contribution plus NIA into Lotta Cash s savings account, per her instructions, the IRA specialist must be sure that the excess removal is coded so it reports properly on the Form R. For a removal of an excess before the tax filing deadline, this means: 1. Report the gross distribution (excess contribution ($3,000) plus an internal IRA ($88.24), or $3,088.24) in Box 1 of Form 1099-R (2016). 2. Report an internal IRA ($88.24) in Box 2a. 3. Select proper code for Form 1099-R from the following table. In this case, Code P, should be reported as the distribution reason code, because the distribution of the excess contribution is taxable in the prior year. Code 1 should be combined with Code P, if Lotta is under age 59 1 /2. NOTE: When removing the earnings (NIA) it is taxable in the year the contribution was made in, NOT the year the contribution was made for. Hence the need for two codes, 8 and P for a Traditional IRA or J8 and JP for a Roth IRA. Example A: The contribution was made in Feb 2017 for 2016, and was removed in April The earnings are taxable in 2017 using IRS code 8 or J8. Example B: The contribution was made in Nov 2016 for 2016, and was removed in March The earnings are taxable in 2016 using IRS code P or JP. Rev. 9/

238 Excesses and Recharacterizations Example 2: Excess Removal Involving Multiple Contributions Before Tax Filing Deadline Plus Extensions If multiple contributions must be removed to correct an excess, such as in the case of a person who has made monthly contributions, the calculation gets a little more complicated. In January 2016, Robert Bruce begins contributing $300 on the 15th of each month to an IRA for While doing his taxes in 2017, he learns he has made an excess contribution of $600 for 2016 and requests that his IRA Trustee remove the excess contribution with the net earnings attributable. No distributions or transfers have been made from the IRA and no contributions or transfers, other than the monthly contributions (including $300 in January and February 2017) have been made. On March 1, 2017, the IRA Trustee performs the calculation to remove the excess from the last two contributions made in 2016 (November and December) using the following information. Closing balance as of March 1, $12,810 (no adjustments) Opening balance as of November 15, 2016 (before first excess contribution was made) - $11,000 Adjusted opening balance (opening balance plus contributions made until corrective distribution) - $12,200 [$11,000 + $300 (11/15/16) +$300 (12/15/16) + $300 (1/15/17) +$300 (2/15/17) = $12,200] To calculate the net income attributable the excess amount ($600) is multiplied by the difference of the adjusted closing balance and the adjusted opening balance divided by the adjusted opening balance, as follows: [$600 x ($12,810 x $12,200) $12,200] = $30 net income attributable. 1. Report the gross distribution (excess contribution ($600) plus earnings (NIA) ($30.00), or $630.00) in Box 1, and the earnings ($30.00) in box 2a and do not mark box 2b. 2. Select proper code for the 2017 Form 1099-R for reporting the excess removal from the following table. In this case, Code P should be reported as the reason code, because the excess contribution was made for 2016 but is being corrected in 2017 for a prior year. Rev. 9/

239 Excesses and Recharacterizations Coding Excesses Removed Before Tax Filing Deadline 1 /2 Example 3 - Excess Removed After Tax Filing Deadline Plus Extensions Only true excesses may be removed after the tax filing deadline plus extensions (October 15) using this formula. A true excess is an excess that exceeds the legal amount an individual is eligible to contribute for a tax year. Excesses that are removed after the tax filing deadline are not removed with net income attributable. Example: On November 1, 2016, Lotta Cash made a $4,000 contribution to her Traditional IRA. Unfortunately, due to a miscalculation on her taxes, Lotta doesn t find out that she only had $1,000 in earned income in 2016 until November 1, Lotta drops by the financial institution where she made the excess contribution, and tells the IRA specialist she has a true excess of $3,000 in her IRA from The IRA specialist, realizing that this is an after the tax filing deadline excess correction offers Lotta two options: Option 1 Apply Excess to Next Year s Contribution Eligibility Redesignate the 2016 excess contribution as a 2017 contribution. This option will only work if Lotta has enough earned income in 2017 to justify a $3,000 contribution. If she chooses this approach, she will have to adjust her 2016 tax return to indicate a deductible contribution of $1,000 for 2016 rather than $4,000, and she will have to attach Form 5329 to pay the 6% penalty on the remaining excess contribution of $3,000 for 2016 ($180). The assets will be left in the account under this scenario and Lotta will deduct the $3,000 redesignated contribution in 2017, assuming she is eligible for a deductible contribution at that time. Option 2 Remove Excess Remove the excess contribution and pay a 6% penalty on the excess for When excesses are removed after the tax filing deadline, only the excess contribution is removed, the NIA is left in the IRA. Any fees or penalties Rev. 9/

240 Excesses and Recharacterizations associated with the excess removal must be taken from the balance, not the amount of the excess distribution. If the contribution was made in 2016, and the excess was removed between October 16 and December 31, 2017, the 6% penalty for 2016 is reported on the 2016 Form 5329, which may also require the IRA Holder to amend his or her 2016 Form 1040 tax return. If the excess were not removed before the December 31 deadline, an additional 6% penalty would apply for each year that the excess remains in the IRA at the end of the tax year. If it is NOT corrected by December 31, 2017, another 6% penalty is due. So too if not corrected by December 31, As long as the original contribution was no more than the maximum allowed for the year and no deduction was taken for it, the distribution will be tax-free. If however the amount of the original contribution was, for instance, $8,000, the excess amount would be taxable when removed. It is up to the IRA Holder to report it on his or her personal tax return. Remove Excess Contribution and Code for Proper Reporting (after the tax filing deadline) 1. Report gross distributions (excess contribution, only) in Box In Lotta s case, the excess does not exceed the maximum annual contribution limit for 2016, so Box 2a is left blank. If the excess had exceeded the maximum annual contribution limit for 2016, the excess amount in Box 1 would also be reported in Box 2a. Since the distribution is from a Traditional IRA and Lotta is under age 59 1 /2, the reason code for the distribution will be a Code 1. 1 /2 1 /2 Example: The IRA Holder, age 59, had an Excess Contribution in It was NOT corrected until January 15, 2017, now age 59 1 /2! It must be reported by the IRA Custodian/Trustee as well as the IRA Holder in the following manner: The excess is reported by the IRA Custodian/Trustee on the 2016 Form The correction distribution is reported on the 2017 Form 1099-R using Code 7 because the Code is used based on the date of the distribution, not the date of the excess contribution. The Financial Institution s work is complete! The IRA Holder may have to amend the 2016 Form 1040 showing the excess. No penalty will be due because it was corrected before the due date of the personal tax return, but the excess contribution and correction of it must be reported on the 2016 Form Rev. 9/

241 Excesses and Recharacterizations Excesses Removed By the Tax Filing Deadline Plus Extensions For those who prefer to use a worksheet to calculate NIA attributable to an excess contribution, the following worksheet may be used. Sample Excess Contribution NIA Worksheet 1. Amount of excess contribution to be removed Ending balance just prior to removing excess contribution (add to actual ending balance any subtractions including distributions, transfers, and recharacterizations that were removed from the account after the excess contribution was made but prior to the excess being removed) Starting balance immediately before excess contribution was made (add to actual starting balance any addition including contributions, transfers, rollovers, or recharacterizations made to account from the time the excess contribution was made until the present, including the excess contribution, itself) Subtract sum on line 3 from sum on line Divide line 4 by line 3. (Round to at least three places) 6. Multiply line 1 by line 5. (This is the NIA) 7. Add line 6 to line 1 (Excess contribution plus its NIA to be removed) Excess Accumulations Versus an Excess Contribution When an IRA Holder does not take a scheduled RMD by the applicable deadline, this creates an excess accumulation, NOT an excess contribution. Excess accumulations are subject to a one-time 50 percent penalty, NOT an annual 6 percent. However, it is possible to apply for a waiver of this penalty if there is a good reason why the IRA Holder missed the deadline. In order to be eligible for a waiver of the excess accumulation penalty, the IRA Holder should remove the amount that should have been distributed and submit a request for the waiver to the IRS. However, if an IRA Holder is not seeking a waiver of the penalty, according to at least one IRS spokesperson, it is not necessary to remove the amount representing the excess accumulation if the IRA Holder pays the 50 percent penalty. The IRA Holder should check with his or her legal and tax advisor when determining this course of action. Rev. 9/

242 Excesses and Recharacterizations Ineligible Rollover Amounts Treated Like Regular IRA Contribution If assets that are ineligible to be rolled over to an IRA are rolled over in error, they are treated like regular contributions for correction purposes and may be removed from the IRA using excess rules applicable to regular contributions. The amount in excess of a regular contribution must be removed as an excess contribution. Some examples of amounts that might be rolled over in error include: Rollovers that were distributed more than 60 days before being rolled over and which are not eligible for an automatic waiver. Any part of a series of substantially equal periodic payments from either a qualified plan or another IRA. A distribution that is deemed to satisfy the RMD requirements. A second distribution from an IRA that has rolled over a prior distribution within a 12-month period. Designated Roth IRA assets to a Traditional IRA. Dividends from an ESOP plan. A qualified retirement plan loan that was deemed distributed. The cost of life insurance. QRP Hardship distribution from a qualified plan. Corrective distributions of excess contributions. Traditional IRA assets transferred or rolled over to a SIMPLE that is not timely recharacterized. IMPORTANT NOTE: BECAUSE OF THE NEW ONE-PER-YEAR ROLLOVER RULE, THE MOST FREQUENT EXCESS MAY NOW BE CAUSED BY THE MAKING OF A SECOND ROLLOVER IN THE YEAR. Correcting Ineligible Rollovers 1 Determine ineligible rollover amount 2 Change/Amend Form 5498, Box 2, showing correct rollover amount (Could be zero) 3 Change/Amend Form 5498 showing ineligible amount as Traditional IRA Contribution, Box 1 or Roth IRA Contribution, Box Correct ineligible rollover as excess if applicable(corrected like any other excess contribution.) Example: If a second, non-qualified rollover is discovered after the fact, as many may be, correction of the 5498 must be done like any other correction. If found in the same year: The 5498 must be corrected to show the entire second rollover as a regular, annual contribution. Then, if it causes an excess contribution, it is administered and dealt with like any other excess contribution by both the IRA Holder and the IRA Custodian/Trustee. Rev. 9/

243 Excesses and Recharacterizations If found in a subsequent year: Similarly, the 5498 for the year of the second rollover must be corrected to show as a regular, annual contribution. Then proceed accordingly if it is an excess contribution. NOTE: By treating the ineligible rollover as a regular contribution, it may be left in the IRA and apportioned year by year as an annual contribution until the total value of the ineligible amount is used up. This will require the IRA Holder to pay an annual 6% penalty on the amount that represents an excess, depending on the size of the ineligible rollover amount. Also, because the ineligible rollover is treated like a regular contribution, it is possible to remove it like a regular contribution excess. Example An IRA Holder rolls over an RMD, or rolls over after the 60-day period has passed, rolls over a second rollover in the same 12-month period (for 2014) from the same IRA, or the second rollover in The full amount of the rollover has been reported. The error is not discovered until later and all reports have been mailed. All of these situations are corrected in the same manner. First, Form 5498 must be corrected showing zero for the rollover and reporting the excess amount as a regular contribution, Traditional or Roth IRA. This amount is treated as any other IRA contribution. If it is an excess contribution, it must be corrected like any other excess IRA contribution. Excess Contribution: Death of the IRA Holder If an IRA Holder has created an excess contribution and it is discovered by the administrator of the estate it will still need to be corrected. The procedure to correct it is exactly the same as if the IRA Holder was alive. The reporting will be in the name and tax identification of the estate. The interest would be taxable to the estate. Invalid or Failed Conversion An invalid or failed conversion can be caused by a number of things. They include the IRA Holder discovers he was not eligible due to income (prior to 2010), tax filing status (prior to 2010), he converted an RMD, failed the 60-day requirement, or he converted assets from something other than a Traditional, SEP or SIMPLE IRA. What are the consequences? If there is time he can recharacterize it. But if it is too late or can not be recharacterized the following occurs: 1. The conversion distribution from the Traditional, SEP or SIMPLE IRA must be reported (corrected) as a regular IRA distribution, regular codes apply. Regular taxes and penalties apply for the IRA Holder in the year of the distribution 2. The conversion into the Roth IRA is treated and reported (corrected) on Form 5498 as a regular, annual Roth contribution. 3. Any amount over the statutory limit is an excess contribution subject to the 6% annual penalty. Conversions and Recharacterizations are NOT affected by the new rollover rule. Rev. 9/

244 Excesses and Recharacterizations Step Two - Select and Fill Out the Proper Transaction Forms Processing Distributions of Excess Contributions The typical process for processing a distribution of an excess contribution might look something like this: Have the customer fill out and sign an excess contribution removal form (or distribution form) (Form ). Determine whether the excess distribution is occurring before or after the tax filing deadline. If before: Determine whether the distribution is occurring in the same year the contribution was made or the year following the year the contribution and record for proper distribution reporting. Calculate the NIA for the excess contribution using the formula found on the form. If after: Determine whether customer would like to apply the contribution to a later tax year or remove the excess. If customer chooses to apply the excess to a later year, do nothing. Report the total contribution in question normally for the year received. If customer chooses to remove, determine whether excess is above legal limit or within or below, and report accordingly. Do not calculate or remove NIA. The earnings are taxable and will be subject to the withholding rules. Apply the customer s withholding elections, and apply any applicable fees or penalties required by your financial institution. Process distribution check/draft or wire transfer per the customer s instructions. IRA Holder is responsible for filing and paying the 6 percent penalty tax with their Form Form 5329 is used to report this tax. Complete Example: Prior to 2015 an IRA Holder rolls over money after the 60-day period or more than 1 rollover in a 12-month period or rolls over their RMD. In any case it is discovered at a later date, what needs to be done? The original contribution form was completed with the rollover box checked. This needs to be corrected and the amount must be marked as a contribution. This will need to be reported as such for purposes including 5498s. This will then need to be corrected as an excess contribution for any amount that exceeds what the IRA Holder can contribute for that year. This will be corrected under excess contribution rules, meaning before October 15 versus after October 15 rules. Rev. 9/

245 Excesses and Recharacterizations Step Three - Know Your Internal Software Reporting Procedures The distribution reason code which prints in box 7 of Form 1099-R is listed in Table 28 found earlier in this chapter for excess removals of both Traditional and Roth IRAs, before the tax filing due date. The distribution reason code which prints in box 7 of Form 1099-R is listed in Table 29 found earlier in this chapter for excess removals of both Traditional and Roth IRAs, after the tax filing due date. Step Four - Route and File Paperwork According to Your Organization s Policies This step will vary from organization to organization, so lines below are provided for you to document how transfer paperwork is filed or routed at your organization. Rev. 9/

246 Excesses and Recharacterizations Questions and Answers Q-1 Our IRA Holder has multiple Traditional IRAs. He has an excess contribution for Can he remove the excess from any IRA or must he remove it only from the IRA with an excess? A-1 The excess must be removed from the IRA with the excess, regardless of the number of IRAs or the varying types of investments. The IRA Holder can NOT pick and choose what IRA or investment. Q-2 How is the applicable earnings calculated when correcting an excess contribution and there are interest penalties and/or IRA Custodian/Trustee fees? A-2 When the net income applicable (NIA) is removed, all such earnings, losses, earnings penalties, charges and fees go into the calculation. It is built into the formula. So any earnings penalty, charges or fee reduce the earnings that must be removed. Q-3 Can an excess IRA contribution be corrected in kind that is using non-cash investments for the corrections? A-3 Yes, non-cash assets can be used to correct an excess IRA contribution. However those assets must be recorded at FMV on the day of the correction AND the amount of the FMV assets must be exactly as calculated, including any earnings. Q-4 Is there an easy way to determine when the 6% excess contribution penalties are to be reported? A-4 Yes! The 6% excess IRA Contribution penalty is reported on the Form 5329 for the year the excess first existed, was caused. And continues to be reported until such excess is corrected. Example: The IRA Holder caused an excess contribution with his April 10, 2016 contribution FOR Even though it was made in 2016, the excess is for 2015 and is reported on the 2015 Form Q-5 If the QRP Holder dies prior to taking the RMD for the year, how is it administered? A-5 The QRP RMD must be paid out of the QRP to the beneficiaries of record. It is NOT to be rolled over to an Inherited IRA with the RMD. If it is, it must be reported as a regular, annual contribution and administered as an excess contribution. Rev. 9/

247 CHAPTER 13 Recharacterizations Recharacterizations Background A recharacterization is a means of treating a contribution made to one type of IRA as if it were made to another type of IRA for tax purposes through a trustee-to-trustee transfer. Recharacterizations generally occur between Traditional and Roth IRAs, although it is also possible to recharacterize the mistaken transfer or rollover of Traditional IRA assets to a SIMPLE IRA back to a Traditional IRA. Recharacterizations are NOT affected by the new rollover rule. This written election must be signed by the IRA Holder and is irrevocable. It must include the following: The type and amount of contribution being recharacterized The date the contribution being recharacterized was made The year for which the contribution being recharacterized was made Instructions from the IRA Holder to recharacterize the contribution from IRA 1 to IRA 2 including NIA The locations of IRA1 and IRA 2 Any other special instructions REMEMBER: Recharacterizations can NEVER change tax years of the transaction being recharacterized. They can only change the type of IRA the transaction is in. Also, no HSA and CESA contributions, of any type, can be recharacterized. This chapter covers the four basic steps to removing excess contributions from IRAs: Step One - The Tax Impact of Recharacterizations, Types of Contributions that May be Recharacterized and the Rules for Recharacterizing Contributions Step Two - Select and Fill Out the Proper Transaction Forms Step Three - Know Your Internal Software Reporting Procedures Step Four - Route and File Paperwork According to Your Organization s Policies Background information and what you need to do to complete each step follows. Rev. 9/

248 Recharacterizations Step One - Sources of Recharacterizations and Rules for Handling the Tax Impact of Recharacterizations A recharacterization transaction has the impact of changing the tax character of a contribution made to one type of IRA (Traditional, Roth, or SIMPLE, in the case of a mistaken transfer or rollover) to an IRA with a different tax character (e.g., Traditional to Roth, Roth to Traditional, or mistaken transfer or rollover to a SIMPLE back to a Traditional). Although recharacterizations are performed as trustee-to-trustee transfers they are reportable on Form 1099-R and Form 5498, as well as on an IRA Holder s tax return. Types of Contributions that May be Recharacterized 1. Contribution into Traditional IRA Recharacterized into a Roth IRA 2. Contribution into Roth IRA Recharacterized into a Traditional IRA 3. Conversion from Traditional IRA into Roth IRA Recharacterized back into a Traditional IRA 4. Traditional IRA Transferred or Rolled Over to a SIMPLE IRA (mistake only 1 ) Recharacterized back to a SIMPLE IRA 5. SIMPLE IRA Converted to Roth IRA Recharacterized back into a SIMPLE IRA 6. SEP IRA Converted to Roth IRA Recharacterized back into a SEP IRA 7. QRP Converted to Roth IRA Recharacterized to Traditional IRA 2 8. Deemed Roth IRA contribution Recharacterized into (Deemed) Traditional IRA 9. Deemed Traditional IRA contribution Recharacterized into (Deemed) Roth IRA 1 The financial institution should have caught this unallowable transaction. If it is not recharacterized by the due date of the tax return plus extensions, it is an excess contribution and must be corrected accordingly. 2 The IRA Holder should check with their legal and tax advisor before making this transaction Three Important Rules for Recharacterizing Contributions In order to recharacterize a contribution from one IRA in a trustee-to-trustee transfer, three rules must be observed: 1. The contribution must be moved from the first IRA to the second IRA with net income, or net losses attributable. 2. The recharacterization must be reported on the IRA Holder s tax return for the year the contribution was made to the first IRA. Tax years can not be changed. 3. The recharacterization amount must be treated as if it were made to the second IRA as of the date it was made to the first IRA for all tax purposes. Rev. 9/

249 Recharacterizations Deadline for Recharacterizing a Contribution Contributions can only be recharacterized up until the tax return due date plus extensions. This is generally October 15 following a tax year, however, as with other dates that are linked to a tax filing deadline, the recharacterization deadline may be moved to the next business day if October 15 falls on a weekend or a holiday (October 15, 2015 for 2014 and October 17, 2016 for 2015.) After the tax filing deadline plus extensions, any ineligible contribution to a Roth IRA (conversion or annual) must be corrected as an excess after the tax filing deadline plus extensions (see Chapter 12). Likewise, if a person who is 70 1 /2 or older makes a contribution to a Traditional IRA and does not recharacterize it to a Roth IRA (if eligible) before the deadline, that amount will need to be corrected as a Traditional IRA excess contribution. A person who files a timely tax return without having made a recharacterization may file an amended tax return and then do a recharacterization within the extension tax period. An IRA Custodian/Trustee must provide a written notice of recharacterization to the IRA Holder. This written election must be signed by the IRA Holder and is irrevocable. It must include the following: The type and amount of contribution being recharacterized The date the contribution being recharacterized was made The year for which the contribution being recharacterized was made Instructions from the IRA Holder to recharacterize the contribution from IRA 1 to IRA 2 including NIA The locations of IRA 1 and IRA 2 Any other special instructions Calculating Net Income Attributable on Recharacterizations Good News and Bad News First the good news...the formula used is the same one as used for correcting Excess Contributions, so learning another calculation is NOT NECESSARY. Now the bad news... the formula used is the same, complicated one as used for correcting Excess Contributions! The formula is repeated here. (Excess) Contribution being removed X Adjusted closing balance Adjusted opening balance Adjusted opening balance = NIA However, when you strip away the references to these adjustments, it becomes clear that the NIA calculation is a simple ratio equation that answers the question, What percentage of the IRA s earnings are attributable to the contribution being recharacterized rather than attributable to the starting balance or other contributions that have been made to IRA during the earnings calculation period? This percentage, when multiplied by the Total Net Rev. 9/

250 Recharacterizations IRA Earnings (i.e., the difference between the ending balance plus all distributions made from the IRA, minus any penalties; and the starting balance, plus all contributions), is the net income attributable to the contribution being recharacterized. Note: If multiple contributions must be recharacterized, such as in the case of a person who has made monthly contributions, and where more than one contribution is to be recharacterized, the same formula is used to calculate the NIA for each recharacterized contribution, but it is calculated using the date that each contribution was made to determine the starting balance for each NIA calculation. See Table 31 or Table 32 later in this chapter for the NIA worksheet for recharacterizations. Now that you have a better sense of what the NIA equation is actually doing, let s take a look at some scenarios that require some adjustments to the starting and closing balances to properly calculate NIA. Recharacterization Earnings May be Negative In 2003, Treasury Decision 9056 created finalized rules that allowed recharacterizations to reflect a loss if the IRA lost money while the recharacterized contribution was held in the IRA from which the amount will be recharacterized. Therefore, if the net income attributable (NIA) that is calculated is a negative number, this amount should be subtracted from the original conversion or contribution amount, resulting in a recharacterization that is less than the original conversion or contribution. If no contribution was made to an account other than the amount to be recharacterized, then the NIA is the difference between the amount immediately before the amount is recharacterized and the amount that was originally contributed to the IRA from which the recharacterized amount is coming. Recharacterizations May be Performed After an IRA Holder Dies According to Treas. Reg A-5, Q&A 6, an executor, administrator, or other person filing a final tax return for a deceased IRA Holder may recharacterize a contribution or conversion on behalf of the decedent. Reporting Recharacterizations: 1099-R Box 1 Gross Amount (Contribution and NIA) Box 2 Taxable Amount -0- Box 7 Code N Same year recharacterizations Code R Prior year recharacterizations 5498 Box 4 Recharacterized Amount Box 7 Check type of IRA that is receiving the dollar being recharacterized Rev. 9/

251 Recharacterizations Example 1: Recharacterized Annual Contribution On November 1, 2016, Lotta Cash made a $4,000 contribution to her Traditional IRA. When Lotta calculated her 2016 taxes in April 2017, although she was eligible to make a $4,000 contribution to the Traditional IRA, she was only eligible to deduct $1,000 of her contribution in Since she won t be able to deduct $3,000 of her $4,000 contribution, Lotta decides it would be best to recharacterize $3,000 of her Traditional IRA contribution to a Roth IRA to get the maximum value for her nondeductible contribution. Lotta drops by the financial institution where she made the contribution and tells the IRA specialist she would like to recharacterize $3,000 of the $4,000 she contributed on November 1, 2016 to her Roth IRA. In order to calculate the NIA for this recharacterization, the IRA specialist knows she will need to have: The IRA starting balance (the balance immediately before the contribution to be recharacterized was made). All additions to the IRA including rollovers, contributions, transfers, or other recharacterizations to the IRA between the time the initial contribution was made and the current day. The current balance or ending balance. All subtractions from the IRA including distributions, transfers, or recharacterizations out of the IRA between the time of the initial excess contribution was made and the current day. Any fees associated with recharacterizing the excess. Step #1 - Look Up Information for Calculation IRA Holder Name: Lotta Cash Contribution Amount to be Recharacterized: $3,000 Starting Balance: $13,000 (immediately prior to Nov. 1 contribution) Contributions, Transfers, Recharacterizations In: $4,000 (November 1, 2016) Current, or Ending Balance: $13,000 (prior to excess correction) Distributions, Transfers, Recharacterizations Out: $4,500 (transfer out) Fees Associated With Distribution of Excess: $0 Step #2 - Calculate Adjusted Starting Balance and Adjusted Ending Balance Step #3 - Calculate Total Net Earning on IRA Adjusted Ending Balance - Adjusted Starting Balance = Total Net Earnings on IRA or $17,500 - $17,000 = $500 Rev. 9/

252 Recharacterizations Step #4 - Calculate Percentage of Earnings Attributable to Recharacterized Contribution [Recharacterized Contribution Adjusted Starting Balance] = % of Earnings Attributable to Excess Or $3,000 $17,000 = (Should calculate out to at least five decimal places) Step #5 - Calculate NIA for Recharacterized Contribution [% of Earnings Attributable to Recharacterized Contribution] x [Total Net Earnings on IRA] = NIA x $500 = $88.24 NIA Step #6 - Transfer Recharacterized Contribution with NIA to Roth IRA, and Code Appropriately for Distribution Reporting After transferring the recharacterized contribution plus NIA into Lotta Cash s Roth IRA, the IRA specialist must be sure that the recharacterization is coded so it reports properly on the Form 1099-R and on Form 5498 as recharacterization contribution. 1. Report the gross distribution (recharacterized contribution ($3,000) plus earnings ($88.24), or $3,088.24) in Box Select proper code for Form 1099-R for reporting the recharacterized contribution from the following table. In this case, Code R should be reported as the reason code, because the recharacterized contribution was made for 2016 but is being recharacterized in 2017 (prior year). Rev. 9/

253 Recharacterizations For those who prefer to use a worksheet to calculate NIA attributable to a contribution that is to be recharacterized, the following worksheet may be used. Sample Recharacterization NIA Worksheet 1. Amount to be recharacterized Ending balance prior to recharacterizing contribution. (add to ending balance any subtractions including distributions, transfers, and recharacterizations that were removed from the account while the amount to be recharacterized was held in the IRA) 3. Starting balance immediately before contribution to be recharacterized was initially made. (add to starting balance any additions including accrued earnings, contributions, transfers, rollovers, or recharacterizations made to the account from the time of the initial contribution until contribution is recharacterized, including the contribution to be recharacterized) Subtract sum on line 3 from sum on line Divide line 4 by line 3. (Round to at least four places) 6. Multiply line 1 by line 5. (This is the NIA) 7. Add line 6 to line 1 (Contribution to be recharacterized, plus its NIA) Rev. 9/

254 Recharacterizations Example 2: Recharacterization, Multiple Contributions in One Year In January 2016, Robert Bruce begins contributing $300 on the 15th of each month to an IRA for While doing his taxes in 2017, he decides he would like to recharacterize $600 to a Roth IRA for 2016 and requests that his trustee recharacterize the $600 with earnings attributable to his Roth IRA. No distributions or transfers have been made from the Traditional IRA and no contributions or transfers, other than the monthly contributions (including $300 in January and February 2017) have been made. On March 1, 2017, the trustee performs the calculation to recharacterize the last two contributions made in 2016 (November and December) using the following information. Closing balance as of March 1, $12,810 (no adjustments) Opening balance as of November 15, 2016 (before first recharacterized contribution was made) - $11,000 Adjusted opening balance (opening balance plus contributions made until the recharacterization) - $12,200 [$11,000 + $300 (11/15/16) +$300 (12/15/16) + $300 (1/15/17) +$300 (2/15/17) = $12,200] To calculate the net income attributable the recharacterized amount ($600) is multiplied by the difference of the adjusted closing balance and the adjusted opening balance divided by the adjusted opening balance, as follows: [$600 x ($12,810 x $12,200) $12,200] = $30 net income attributable. Report the gross distribution (recharacterized contribution ($600) plus earnings ($30.00), or $630.00) in Box 1. Select proper code for Form 1099-R for reporting the recharacterized contribution from the following table. In this case, Code R should be reported as the reason code, because the recharacterized contribution was made for 2016 but is being recharacterized in 2017 for a prior year. Example 3: Recharacterization of a Failed Conversion On November 1, 2009, Lotta Cash converted $10,000 of her Traditional IRA to a Roth IRA. On December 1, 2009, Lotta receives a $150,000 commission check and realizes she will not be eligible to complete a conversion in 2009 because her MAGI will exceed $100,000. NOTE: THIS MAGI ELIGIBILITY REQUIREMENT IS WAIVED FOR CONVERSIONS DONE ON OR AFTER JANUARY 1, Lotta drops by the financial institution where she converted the assets on December 5, 2009, and tells the IRA specialist she would like to recharacterize her $10,000 conversion back to her Traditional IRA. In order to calculate the NIA for this recharacterization, the IRA specialist knows she will need to have: Rev. 9/

255 Recharacterizations The IRA starting balance (the balance immediately before the conversion contribution to be recharacterized was made). Contributions, transfers, or recharacterizations to the IRA between the time the initial contribution was made and the current day. The current balance or ending balance. Distributions, transfers, or recharacterizations out of the IRA between the time the initial excess was made and the current day. Any fees associated with distributing the excess. Step #1 - Look Up Information for Calculation IRA Holder Name: Lotta Cash Conversion Amount to be Recharacterized: $10,000 Starting Balance: $13,000 (immediately prior to Nov. 1 conversion) Contributions, Transfers, Recharacterizations In: $10,000+$4,000 annual (also made November 1, 2009) Current, or Ending Balance: $27,100 (prior to excess correction) Distributions, Transfers, Recharacterizations Out: None Fees Associated With Distribution of Excess: $0 Step #2 - Calculate Adjusted Starting Balance and Adjusted Ending Balance Step #3 - Calculate Total Net Earning on IRA Adjusted Ending Balance - Adjusted Starting Balance = Total Net Earnings on IRA or $27,100 - $27,000 = $100 Step #4 - Calculate Percentage of Earnings Attributable to Recharacterized Conversion [Rechar. Conversion Adjusted Starting Balance] = % of Earnings Attributable to Recharacterized Conversion Or $10,000 $27,000 =.3704 Note: If more than one conversion is made during a year to an IRA, the last conversion made is deemed to be the first one recharacterized. Rev. 9/

256 Recharacterizations Step #5 - Calculate NIA for Recharacterized Conversion [% of Earnings Attributable to Rechar. Conv.] x [Total Net Earnings on IRA] = NIA.3704 x $100 = $37.04 NIA Step #6 - Transfer Recharacterized Conversion with NIA to Traditional IRA, and Code Appropriately for Distribution Reporting After transferring the recharacterized contribution plus NIA into Lotta Cash s Roth IRA, the IRA specialist must be sure that the recharacterization is coded so it reports properly on the Form 1099-R and on Form 5498 as recharacterization contribution. 1. Report the gross distribution (recharacterized conversion ($10,000) plus earnings ($37.04), or $10,037.04) in Box Select the proper code for reporting the recharacterized contribution on Form 1099-R from the following table. In this case, Code N should be reported as the reason code, because the recharacterized conversion was done in 2009 and recharacterized in 2009 (same year). For those who prefer to use a worksheet to calculate NIA attributable to a contribution that is to be recharacterized, the following worksheet may be used. NOTE: AGAIN REMEMBER THE MAGI ELIGIBILITY LIMITATION WAS REMOVED AFTER Recharacterizations When Taxes Were Withheld From a Converted Amount Sometimes an IRA Holder will have taxes withheld from an amount they convert to a Roth IRA. Unless they make up this amount out-of-pocket, the amount that is withheld will be subject to income taxation and penalties. If taxes were withheld on an ineligible conversion amount and not made up out-of-pocket, the amount withheld in taxes will not be eligible to be recharacterized. Note: A person who files a timely tax return before making a recharacterization may amend his or her tax return to recharacterize up until the tax filing deadline plus extensions. The IRA Custodian or Trustee must provide a written notice of recharacterization that can be for the IRA Holder for their tax records. Reconversions A reconversion is an amount that is converted, recharacterized, and converted again. This can be done for a number of reasons, including dramatic losses in investments after a conversion, which creates a situation where it would be more favorable from a tax perspective to undo the original conversion, and reconvert it at a lower taxable value. An IRA Holder who converts from a Traditional, SEP, or SIMPLE IRA to a Roth IRA during any tax year and then recharacterizes that amount back to the Traditional, SEP, or SIMPLE may reconvert to a Roth IRA, if they are eligible to convert; however, there are some timing restrictions on reconversions, in that a reconversion may not be done before: Rev. 9/

257 Recharacterizations The later of: The beginning of the tax year following the tax year of the conversion to the Roth IRA. OR Thirty days after the day on which the IRA Holder recharacterizes the amount from the Roth IRA back to the Traditional, SEP, SIMPLE IRA, if later than the beginning of the tax year following the tax year of the conversion to the Roth IRA. Example 1: The IRA Holder converts his traditional IRA on March 31, He decides to recharacterize it on November 12, He may not reconvert until January 1, 2017, the beginning of the next tax year. Example 2: The IRA Holder converts his traditional IRA on March 31, He decides to recharacterize it on December 12, He may not reconvert until January 11, 2017, thirty days after the recharacterization. Sample Recharacterization NIA Worksheet 1. Amount to be recharacterized Ending balance just prior to removing recharacterized amount. (Add to actual ending balance any subtractions including distributions, transfers, and recharacterizations that were removed from the account while the amount to be recharacterized was held in the IRA) Starting balance immediately before amount to be recharacterized was initially made (add to actual starting balance any additions including contributions, transfers, rollovers, or recharacterizations made to account from the time the amount to be recharacterized was contributed until the present, including the actual amount to be recharacterized) Subtract sum on line 3 from sum on line Divide line 4 by line 3. (Round to at least four places) 6. Multiply line 1 by line 5. (This is the NIA) 7. Add line 6 to line 1 (Contribution to be recharacterized, plus its NIA) Rev. 9/

258 Recharacterizations Step Two - Select and Complete the Proper Transaction Forms Processing Recharacterizations The typical process for recharacterizing a contribution or conversion might look something like this: Have the customer complete and sign a recharacterization request form (Form ). Determine whether the contribution being recharacterized was for the current year or the prior year. Calculate the NIA for the contribution being recharacterized using the formula found on the form. Withholding does not apply to recharacterizations. Transfer the recharacterized contribution to the receiving IRA. If a recharacterization is occurring internally, assets may be redesignated. Step Three - Know Your Internal Software Reporting Procedures The distribution reason codes which print in box 7 of Form 1099-R that may be used to report recharacterization distributions are listed in the following table. Distribution Coding for Recharacterizations Recharacterized amounts distributed by an IRA are reported like any other distribution using the applicable distribution code in Box 7 of Form 1099-R. All recharacterized distributions at a financial institution for the same taxpayer, for the same tax year, with the same reporting code must be aggregated and reported on one Form R. Contribution Reporting for Recharacterizations Recharacterized amounts received by an IRA are reported in Box 4 on Form All recharacterized contributions received at a financial institution for the same taxpayer, for the same tax year must be aggregated and reported on one Form Step Four - Route and File Paperwork According to Your Organization s Policies This step will vary from organization to organization, so lines below are provided for you to document how transfer paperwork is filed or routed at your organization. Rev. 9/

259 Recharacterizations Questions and Answers Q-1 When a QRP Direct Conversion is made into a Roth IRA, how can it be recharacterized? A-1 Usually it can NOT be recharacterized back to the QRP. It must be recharacterized to a traditional IRA. Q-2 How are multiple recharacterizations administered time wise? A-2 Example: The IRA Holder Converts his Traditional IRA on March 31, He Recharacterized the Conversion on June 2, He is unable to Reconvert until July 2, Rev. 1/

260 Recharacterizations Rev. 1/

261 Appendix A Life Expectancy Tables Table I - Single Life Expectancy Used by all IRA Beneficiaries with Inherited IRAs Table II - Joint Life & Last Survivor Expectancy Table Used by IRA Holders to calculate lifetime RMDs when a sole spouse beneficiary is greater than 10 years younger than the IRA Holder Table III - Uniform Lifetime Table Used by IRA Holders to calculate all lifetime RMDs except when the sole spouse beneficiary is more than 10 years younger than the IRA Holder (then see Joint Life Expectancy Table above) Rev. 9/2017 A-1

262 Table I (Single Life Expectancy) (For Use by Beneficiaries) (Inherited IRAs)

263 Table I (Single Life Expectancy) (For Use by Beneficiaries) (Inherited IRAs)

264 A-4

265 A-5

266 A-6

267 A-7

268 A-8

269 A-9

270 A-10

271 A-11

272 A-12

273 A-13

274 A-14

275 A-15

276 A-16

277 A-17

278 Table III (Uniform Lifetime) (Calculation of RMDs)

279 Appendix B Waiver of 60-Day Rollover Requirement IRS Revenue Procedure Rev. 9/2017 B1

280 Waiver of 60-Day Rollover Requirement Rev. Proc SECTION 1. PURPOSE This revenue procedure provides guidance concerning waivers of the 60-day rollover requirement contained in 402(c)(3) and 408(d)(3) of the Internal Revenue Code ( Code ). Specifically, it provides for a self-certification procedure (subject to verification on audit) that may be used by a taxpayer claiming eligibility for a waiver under 402(c)(3)(B) or 408(d)(3)(I) with respect to a rollover into a plan or individual retirement arrangement ( IRA ). It provides that a plan administrator, or an IRA trustee, custodian, or issuer ( IRA trustee ), may rely on the certification in accepting and reporting receipt of a rollover contribution. It also modifies Rev. Proc , I.R.B. 359, by providing that the Internal Revenue Service may grant a waiver during an examination of the taxpayer s income tax return. An appendix contains a model letter that may be used for self-certification. SECTION 2. BACKGROUND.01 Sections 402(c)(3) and 408(d)(3) provide that any amount distributed from a qualified plan or IRA will be excluded from income if it is transferred to an eligible retirement plan no later than the 60th day following the day of receipt. A similar rule applies to 403(a) annuity plans, 403(b) tax sheltered annuities, and 457 eligible governmental plans. See 403(a)(4)(B), 403(b)(8)(B), and 457(e)(16)(B)..02 Section 401(a)(31) requires that a plan qualified under 401(a) provide for the direct transfer of eligible rollover distributions. A similar rule applies to 403(a) annuity plans, 403(b) tax-sheltered annuities, and 457 eligible governmental plans. See 403(a)(1), 403(b)(10), and 457(d)(1)(C). Section 1.401(a)(31)-1, Q&A-14, provides examples of situations in which a plan administrator may reasonably conclude that a contribution, whether made via a direct transfer or a 60-day rollover, is a valid rollover contribution to a 401(a) or 403(a) plan. Several of the examples illustrate circumstances under which a plan administrator may rely on certain certifications and documentation that a rollover contribution that is not a direct transfer is being made no later than 60 days following receipt..03 An IRA trustee reports a rollover contribution received during a year on a Form 5498, IRA Contribution Information, for that year..04 Sections 402(c)(3)(B) and 408(d)(3)(I) provide that the Secretary may waive the 60-day rollover requirement where the failure to waive such requirement would be against equity or good conscience, including casualty, disaster, or other events beyond the reasonable control of the individual subject to such requirement..05 Under 7508 and 7508A, the time for making a rollover may be postponed in Rev. 1/2016 A-1 B-2

281 the event of service in a combat zone or in the case of a Presidentially declared disaster or a terroristic or military action. See and Rev. Proc , I.R.B Rev. Proc establishes a letter-ruling procedure for taxpayers to apply to the IRS for a waiver of the 60-day rollover requirement under 402(c)(3)(B) or 408(d)(3)(I). Section 3.03 of Rev. Proc also provides for automatic approval for a waiver of the 60-day rollover requirement in certain circumstances in which a rollover is not made timely due to an error on the part of a financial institution..07 Rev. Proc , I.R.B. 142, provides the procedures for issuing letter rulings on matters under the jurisdiction of the Commissioner, Tax Exempt and Government Entities Division. SECTION 3. SELF-CERTIFICATION.01 Written self-certification. A taxpayer may make a written certification to a plan administrator or an IRA trustee that a contribution satisfies the conditions in Section 3.02 of this revenue procedure. This self-certification has the effects described in Section 3.04 of this revenue procedure. Taxpayers may make the certification by using the model letter in the appendix on a word-for-word basis or by using a letter that is substantially similar in all material respects. A copy of the certification should be kept in the taxpayer s files and be available if requested on audit..02 Conditions for self-certification. (1) No prior denial by the IRS. The IRS must not have previously denied a waiver request with respect to a rollover of all or part of the distribution to which the contribution relates. (2) Reason for missing 60-day deadline. The taxpayer must have missed the 60- day deadline because of the taxpayer s inability to complete a rollover due to one or more of the following reasons: (a) an error was committed by the financial institution receiving the contribution or making the distribution to which the contribution relates; (b) the distribution, having been made in the form of a check, was misplaced and never cashed; (c) the distribution was deposited into and remained in an account that the taxpayer mistakenly thought was an eligible retirement plan; (d) the taxpayer s principal residence was severely damaged; (e) a member of the taxpayer s family died; Rev. 1/2016 A-1 B-3

282 (f) the taxpayer or a member of the taxpayer s family was seriously ill; (g) the taxpayer was incarcerated; (h) restrictions were imposed by a foreign country; (i) a postal error occurred; (j) the distribution was made on account of a levy under 6331 and the proceeds of the levy have been returned to the taxpayer; or (k) the party making the distribution to which the rollover relates delayed providing information that the receiving plan or IRA required to complete the rollover despite the taxpayer s reasonable efforts to obtain the information. (3) Contribution as soon as practicable; 30-day safe harbor. The contribution must be made to the plan or IRA as soon as practicable after the reason or reasons listed in the preceding paragraph no longer prevent the taxpayer from making the contribution. This requirement is deemed to be satisfied if the contribution is made within 30 days after the reason or reasons no longer prevent the taxpayer from making the contribution..03 Reporting on Form The IRS intends to modify the instructions to Form 5498 to require that an IRA trustee that accepts a rollover contribution after the 60-day deadline report that the contribution was accepted after the 60-day deadline..04 Effect of self-certification. (1) Effect on plan administrator or IRA trustee. For purposes of accepting and reporting a rollover contribution into a plan or IRA, a plan administrator or IRA trustee may rely on a taxpayer s self-certification described in this Section 3 in determining whether the taxpayer has satisfied the conditions for a waiver of the 60-day rollover requirement under 402(c)(3)(B) or 408(d)(3)(I). However, a plan administrator or an IRA trustee may not rely on the self-certification for other purposes or if the plan administrator or IRA trustee has actual knowledge that is contrary to the self-certification. (2) Effect on taxpayer. A self-certification is not a waiver by the IRS of the 60-day rollover requirement. However, a taxpayer may report the contribution as a valid rollover unless later informed otherwise by the IRS. The IRS, in the course of an examination, may consider whether a taxpayer s contribution meets the requirements for a waiver. For example, the IRS may determine that the requirements for a waiver were not met because of a material misstatement in the self-certification, the reason or reasons claimed by the taxpayer for missing the 60-day deadline did not prevent the taxpayer from completing the rollover within 60 days following receipt, or the taxpayer failed to make the contribution as soon as practicable after the reason or reasons no longer prevented the taxpayer from making the contribution. In such a case, the taxpayer may be subject to Rev. 1/2016 A-1 B-4

283 additions to income and penalties, such as the penalty for failure to pay the proper amount of tax under SECTION 4. ADDITIONAL WAIVERS DURING EXAM In addition to automatic waivers and waivers through application to the IRS under Section 3 of Rev. Proc , the IRS, in the course of examining a taxpayer s individual income tax return, may determine that the taxpayer qualifies for a waiver of the 60-day rollover requirement under 402(c)(3)(B) or 408(d)(3)(I). SECTION 5. EFFECTIVE DATE This revenue procedure is effective on August 24, SECTION 6. EFFECT ON OTHER DOCUMENTS Rev. Proc is modified by Section 4 of this revenue procedure. SECTION 7. PAPERWORK REDUCTION ACT The collections of information contained in this revenue procedure have been reviewed and approved by the Office of Management and Budget in accordance with the Paperwork Reduction Act (44 U.S.C. 3507) under control number An agency may not conduct or sponsor, and a person is not required to respond to, a collection of information unless the collection of information displays a valid OMB control number. The collections of information in this revenue procedure are in Section The collection of information relates to a certification by taxpayers wanting a waiver of the 60- day requirement for rollovers of distributions from plans or IRAs. The collections of information are required to obtain a benefit. The likely recordkeepers are individuals. Estimates of the annualized cost to respondents are not relevant, because each collection of information in this revenue procedure is a one-time collection. Books or records relating to a collection of information must be retained as long as their contents may become material in the administration of any internal revenue law. Generally, tax returns and tax return information are confidential, as required by DRAFTING INFORMATION The principal author of this revenue procedure is Roger Kuehnle of the Office of Associate Chief Counsel (Tax Exempt and Government Entities). Rev. 1/2016 A-1 B-5

284 Topics for Retirement Plans IRAs Types of Retirement Plans Required Minimum Distributions Retirement Plans FAQs Published Guidance Forms & Publications Correcting Plan Errors Newsletters Retirement Plans A-Z Tax Exempt and Government Entities Retirement Plans Home Retirement Plans FAQs relating to Waivers of the 60-Day Rollover Requirement These frequently asked questions and answers provide general information and should not be cited as legal authority. Because these answers do not apply to every situation, yours may require additional research. There are many requirements to make a valid rollover contribution including the 60-day requirement. Assuming other requirements are satisfied, you have 60 days from the date you receive a distribution from an IRA or retirement plan to roll it over to another plan or IRA. If you don t roll over your payment, it will be taxable (other than qualified Roth distributions and any amounts already taxed) and you may also be subject to additional tax unless you re eligible for one of the exceptions to the 10% additional tax on early distributions. The IRS may waive the 60-day rollover requirement in certain situations if you missed the deadline because of circumstances beyond your control. These frequently asked questions address when the 60-day rollover requirement may be waived. 1. Can I make a late (after the expiration of the 60-day period) rollover contribution to my retirement plan or IRA? 2. How do I obtain a waiver of the 60-day rollover requirement? 3. How do I qualify for an automatic waiver? 4. How do I apply for a waiver and what is the fee? 5. Is there an IRS fee for using the self-certification procedure? 6. How do I self-certify that I qualify for a waiver? 7. Does the Model Letter constitute a waiver? 8. Is my bank required to accept a late rollover contribution to an IRA? 9. I do not satisfy the requirements for self-certification. Can I still submit a private letter ruling request for a waiver? 10. How does the IRS determine whether to grant a waiver in a private letter ruling? 11. If my request for a waiver is denied, may I still use the self-certification procedure? 12. Who is eligible to request a private letter ruling for a waiver of the 60-day rollover requirement? 13. What information must I submit with my private letter ruling request for a waiver? 14. How does the IRS process requests for a waiver? 15. Is a request for a waiver subject to disclosure? 16. Where do I send the request for a waiver? 17. What are the primary differences between requesting a ruling for a waiver and using the self- certification procedure? 18. Where can I find more information regarding rollovers? 1. Can I make a late (after the expiration of the 60-day period) rollover contribution to my retirement plan or IRA? Yes, you can make a late rollover contribution rollover after the expiration of the 60-day period - if you: 1. Are entitled to an automatic waiver of the 60-day rollover requirement, 2. Request and receive a private letter ruling waiving the 60-day requirement, 3. Qualify for and use the self-certification procedure for a waiver of the 60-day requirement. Return to List of FAQs 2. How do I obtain a waiver of the 60-day rollover requirement? There are three ways to obtain a waiver of the 60-day rollover requirement: You qualify for an automatic waiver, You request and receive a private letter ruling granting a waiver, or You self-certified that you met the requirements of a waiver and the IRS determines during an audit of your income tax return that you qualify for a waiver. Return to List of FAQs Rev. 1/2016 A-1 B-6

285 3. How do I qualify for an automatic waiver? You qualify for an automatic waiver if all of the following apply: The financial institution receives the funds on your behalf before the end of the 60-day rollover period. You followed all of the procedures set by the financial institution for depositing the funds into an IRA or other eligible retirement plan within the 60-day rollover period (including giving instructions to deposit the funds into a plan or IRA). The funds are not deposited into a plan or IRA within the 60-day rollover period solely because of an error on the part of the financial institution. The funds are deposited into a plan or IRA within 1 year from the beginning of the 60-day rollover period. It would have been a valid rollover if the financial institution had deposited the funds as instructed. If you do not qualify for an automatic waiver, you can apply to the IRS for a waiver of the 60-day rollover requirement or use the self-certification procedure to make a late rollover contribution. Return to List of FAQs 4. How do I apply for a waiver and what is the fee? You can request a ruling according to the procedures outlined in Revenue Procedure and Revenue Procedure The appropriate user fee of $10,000 must accompany every request for a waiver of the 60-day rollover requirement (see the user fee chart in Revenue Procedure ). Return to List of FAQs 5. Is there an IRS fee for using the self-certification procedure? There is no IRS fee for using the self-certification procedure. Return to List of FAQs 6. How do I self-certify that I qualify for a waiver? You would complete the Model Letter in the appendix to Revenue Procedure or a substantially similar letter and present it to the financial institution receiving the late rollover contribution. You will be entitled to a waiver if ALL of the following are true: The rollover contribution satisfies all of the other requirements for a valid rollover (except the 60- day requirement). You can show that one or more of the reasons listed in the Model Letter prevented you from completing a rollover before the expiration of the 60-day period. The distribution came from an IRA you established or from a retirement plan you participated in. The IRS has not previously denied your request for a waiver. The rollover contribution is made to the plan or IRA as soon as practicable (usually within 30 days) after the reason or reasons for the delay no longer prevent you from making the contribution. The representations you make in the Model Letter are true. Return to List of FAQs 7. Does the Model Letter constitute a waiver? No, a self-certification is not a waiver by the IRS of the 60-day rollover requirement. However, if you qualify for a waiver, you can use the Model Letter to make a late rollover contribution to another plan or IRA. If the IRS subsequently audits your income tax return, it may determine that you do not qualify for a waiver, in which case you may owe additional taxes and penalties. Return to List of FAQs 8. Is my bank required to accept a late rollover contribution to an IRA? No, a particular financial institution is not required to accept a late rollover to an IRA. However, you can use the self-certification procedure and Model Letter to assure a financial institution that it can rely on the Model Letter in accepting and reporting receipt of a rollover contribution. Return to List of FAQs Rev. 1/2016 A-1 B-7

286 9. I do not satisfy the requirements for self-certification. Can I still submit a private letter ruling request for a waiver? Yes. If you satisfy the requirements of Revenue Procedure and Revenue Procedure , you may submit a private letter ruling request for a waiver. Please check for annual updates to these revenue procedures. Return to List of FAQs 10. How does the IRS determine whether to grant a waiver in a private letter ruling? In determining whether to issue a favorable letter ruling granting a waiver, the IRS will consider all of the relevant facts and circumstances, including: Whether errors were made by the financial institution, i.e., the plan administrator, or IRA trustee, issuer or custodian; Whether you were unable to complete the rollover within the 60-day period due to death, disability, hospitalization, incarceration, serious illness, restrictions imposed by a foreign country, or postal error; Whether you used the amount distributed; and How much time has passed since the date of the distribution. Note: The IRS can waive only the 60-day rollover requirement and not the other requirements for a valid rollover contribution. For example, the IRS cannot waive the IRA one-rollover-per-year rule. Return to List of FAQs 11. If my request for a waiver is denied, may I still use the self-certification procedure? No. If the IRS has previously declined to issue a favorable letter ruling granting a waiver, you cannot use the self-certification procedure. Return to List of FAQs 12. Who is eligible to request a private letter ruling for a waiver of the 60-day rollover requirement? Anyone who has received a distribution from his or her plan or IRA, their surviving spouses or their legal representatives are eligible to request a private letter ruling for an extension of the 60-day rollover period. A non-spouse beneficiary of a deceased person s plan or IRA is not eligible to roll over a distribution received from the plan or IRA. Return to List of FAQs 13. What information must I submit with my private letter ruling request for a waiver? You can use the sample letter ruling request format in Appendix A, Revenue Procedure Appendix B of this Revenue Procedure contains a checklist of information that you should submit with the ruling request. You should supply the following additional information when making a request for a waiver: 1. If the distribution is made from a plan, the full name of the plan and the name of the employer that sponsors the plan; 2. If the distribution is made from an IRA, the full name of the IRA owner, the IRA account number and the name of the trustee/custodian of the IRA making the distribution; 3. If the request is being made on behalf of a surviving spouse (beneficiary) of a deceased IRA owner or plan participant, a copy of the beneficiary designation and a copy of the death certificate; 4. The amount(s) of the distribution(s); 5. The date(s) the distribution(s) was/were made; 6. The amount of federal and/or state taxes, if any, withheld from the distribution; 7. A copy of the Form 1099-R, if available; 8. A statement as to why the distribution(s) was/were made, indicating what was intended to be done with the distribution and what was actually done with the distribution (provide the name of the financial institution where the distribution was deposited, if applicable); 9. A detailed explanation as to why the 60-day rollover requirement was not met and copies of all supporting documents. 10. Evidence that you have not used the distributed funds (for example, copies of bank statements, etc.); 11. The name of the plan or IRA trustee/custodian where you intend to make the rollover if a waiver is granted; 12. If the waiver request involves an IRA-to-IRA rollover, a statement regarding whether you have made an IRA-to-IRA rollover in the past 12 months (not counting rollovers from traditional IRAs to Roth IRAs). Note: If a waiver is granted, you have 60-days from the date the letter is issued to complete the rollover. Rev. 1/2016 A-1 B-8

287 14. How does the IRS process private letter ruling requests for a waiver? The IRS processes private letter ruling waiver requests in the order received. However, the IRS will not process and will return any requests that do not include the appropriate user fee and/or that do not comply with the procedural requirements described above. Return to List of FAQs 15. Is a request for a private letter ruling waiver subject to disclosure? The text of letter rulings is generally open to public inspection. The IRS makes deletions before it is made available to the public. To help the IRS make any necessary deletions, a request for a letter ruling must be accompanied by a statement indicating the deletions desired ("deletions statement"). If you only want names, addresses and identifying numbers to be deleted, you should state this in the deletions statement. Return to List of FAQs 16. Where do I send the private letter ruling request for a waiver? You should send the private letter ruling request with the appropriate user fee to the IRS at the following address: Internal Revenue Service Attn: EP Letter Rulings Stop 31 P.O. Box Covington, KY Requests shipped by Express Mail or a delivery service should be sent to: Internal Revenue Service Attn: EP Letter Rulings Stop West Rivercenter Blvd. Covington, KY Letter ruling requests will not be accepted via fax. Return to List of FAQs 17. What are the primary differences between requesting a private letter ruling for a waiver and using the self-certification procedure? The primary differences are that under the self-certification procedure you: Do not have to file a request with the IRS; Do not have to pay a fee to the IRS; Do not have to wait to receive a letter ruling from the IRS before making the late rollover contribution; and Do not have a guarantee that you qualify for a waiver. You may wish to contact a tax advisor to be sure you satisfy the requirements for a waiver of the 60-day requirement and the other requirements for a valid rollover. Return to List of FAQs 18. Where can I find more information regarding rollovers? Here are some additional resources: Rollovers of Retirement Plan and IRA Distributions Pub. 590-A, Contributions to Individual Retirement Arrangements (IRAs) Pub. 560, Retirement Plans for Small Business (SEP, SIMPLE, and Qualified Plans) Pub. 571, Tax-Sheltered Annuity Plans (403(b) Plans) Return to List of FAQs Page Last Reviewed or Updated: 24-Aug Rev. 1/2016 A-1 B-9

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