By law, Plan trustees and custodians are required to provide account statements and notices to participants- many of which are critical to the successful operation of the account. But, these- while important, are not helpful to the account owner, if they are sent to an invalid address.
Account statements, showing account balances and performance of investments, are only one of the notices that individual retirement account (IRA) custodians and plan administrators must provide to account owners. Others include statements of tax reporting activity, such as Internal Revenue Service (IRS) Form 1099-R that reports distributions, and notification of any change in custodianship or administrators. Whether electronically or by physical mail, the information is sent to the account owner’s address of record. For account owners who change addresses, failing to notify IRA custodians and plan administrators could be costly, as evidenced by private letter ruling (PLR) 202023007.
In PLR 202023007, the IRA owner failed to notify his IRA custodian that he had moved. That failure resulted in the custodian distributing his IRA without his permission or knowledge, and costing him an IRS PLR fee of $10,000.
There are several background rules that are addressed in this PLR.
An IRA Custodian’s Right to Resign as Custodian
Just as an IRA owner can choose to move his IRA to another financial institution, an IRA custodian can decide that it no longer wants to serve as custodian of an IRA. This right to resign as custodian is included is the governing contract for most IRAs.
An IRA disclosure statement should include information about the circumstances under which an IRA may be closed without any further action by the IRA owner, and the timing requirements that apply. One such example – commonly referred to as a 30-day resignation notice, gives an IRA custodian the authority to close an IRA within 30 days of sending the IRA owner a notice of resignation. Such a notice generally includes an explanation of why the custodian is resigning, and instructions on how the IRA owner may move the IRA to another financial institution without incurring any tax consequences.
If the custodian does not get a response by the deadline, the IRA holdings are usually distributed and any relevant notification sent to the address of record. In such cases, the distribution would be reported to the IRA owner- and the IRS, on IRS Form 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc. (Form 1099-R).
1099-Rs and Income Requirement
A distribution reported on IRS Form 1099-R must be included on the recipient’s tax return as income. If the amount is rolled over within 60 days, the amount must be reported as nontaxable income- provided the amount is eligible to be rolled over.
The 60-day period can be waived under certain circumstances, such as under the IRS PLR Program. Under this program, the IRS may waive the 60-day deadline, "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." IRC § 402(c)(3).
The IRS charges a fee of $10,000 to review PLR requests, regardless of whether their ruling is favorable.
The IRS’ Document Matching Program
The IRS has a Document Matching Program, which is used- in part- to identify taxpayers who underreport their income. Under the program, an amount might be flagged as underreported income, if it is reported on a Form 1099-R as income and is not included on the IRA owner’s tax return. In such cases, the IRS generally amends the tax return to include the amount and issues a CP2000 notice to the IRA owner.
The Facts of PLR 202023007
The IRA owner, let’s call him Tyrone, established an IRA with Custodian-D. The IRA held shares of a real estate investment trust (REIT).
Tyrone subsequently moved to another state, but failed to notify Custodian-D about his change of address.
Custodian-D sent a letter to Tyrone’s address that they had on record- which is his old address- informing him that they were resigning as custodian of his IRA. The resignation resulted in the assets held in the IRA being distributed to him.
Neither the resignation letter nor the 1099-R issued for the distribution was forwarded to Tyrone’s new address. As a result, Tyrone was not aware of the distribution until he received a CP2000 notice from the IRS.
Upon receiving the CP2000 notice, Tyrone consulted with his CPA, the issuer of the REIT and a new IRA Custodian-E; and subsequently rolled over the shares of the REIT to a new IRA with Custodian-E.
Based on the facts and representations, Tyrone requested that the IRS waive the 60-day deadline, which would result in the rollover being valid and eligible to be excluded from his income.
The IRS issued a favorable ruling in response to Tyrone’s request, contingent upon the fact that all other rollover rules were satisfied. These other rollover rules include the one-per-year rule for IRA-to-IRA rollovers, under which an individual may perform only one IRA-to-IRA rollover during a 12-month period.
Tax-Deferral Status Saved- but at a Cost
Had the IRS not issued a favorable ruling, Tyrone would have been required to include the amount in income and pay income tax on any pre-tax amount, pay an additional 10% early distribution penalty if he was under age 59 ½ at the time the distribution was made by Custodian-D, and remove the amount from the IRA with Custodian-E as a return of excess contribution- to avoid the amount being subject to a 6% excise tax that would apply for every year it remained in his IRA.
But Tyrone was able to avoid these consequences – albeit at a cost of an IRS fee of $10,000, plus any professional fees incurred for assistance with filing the PLR.
The IRS’s fee and other expenses incurred for requesting the PLR might be worth it, as it provides an assurance that the IRS would not later disqualify the rollover, as long as all other rollover requirements are satisfied. But this could have been avoided, if Tyrone had notified Custodian-D that he had moved and instructed them to update his address of record.
How Advisors Can Help Clients
This is one of those areas in which the requirements must be made clear during the account opening process. The potential consequences of failing to notify the financial institution about a change of address should be emphasized. These consequences include unintentional distributions, accounts being escheated to states, and beneficiaries being effectively disinherited because of owners losing track of accounts.
A good practice for an account owner is to maintain a list of financial accounts and notify the issuers/trustees/custodians of any change of mailing address, email address and telephone numbers.