Estate Planning: Tax Court Rules Against Tax Lawyer Regarding IRA Rollover Tax Treatment

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By: Justin Bandford
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The Tax Court recently stuck down tax lawyer Alvan L. Bobrow’s characterization of a series of IRA rollover transactions in the recent case of Bobrow v. Commissioner, T.C. Memo 2014-21. In doing so, the Tax Court has interpreted IRS Code 408(d)(3)(B) differently from the explanation provided in IRS Publication 590. The decision changes the common understanding of the “one rollover-per-year” rule for IRAs.
Please note that the “one rollover per-year” rule only applies to the rollovers made via distributions that are, or are intended to be ,reinvested in an IRA within 60 days; it does not apply to direct or trustee-to trustee rollover. In other words as you rollover your IRA directly from one financial institution to another without ever personally receiving the proceeds the “one rollover-per-year” rule will not apply.

IRS Code 408(d)(3)(B) provides that nontaxable rollover treatment is not available if the taxpayer has already received a nontaxable rollover distribution from an IRA in the previous year. Practitioners, including the aforementioned mentioned Mr.Bobrow, interpreted this rule to apply separately to each IRA an individual owns. This view was thought to be shared with the IRS, which states in Publication 590 that: “Generally, if you make a tax-free rollover of any part of a distribution from a traditional IRA, you cannot, within a 1 –year period, make a tax free rollover of any later distribution from that same IRA”. [Emphasis added] In Bo brow, the Tax Court interpreted the statue to apply to all of a taxpayers IRA accounts ,rather than only applying to each IRA account in isolation: “Regardless how many IRAs he or she maintains a taxpayer may make only one nontaxable rollover contribution with in each one-year period”. In reaching this finding, the courts cited the plain language of the statue legislative history and prior opinions.

Bad facts make bad law. Mr. Bobrow pushed the envelope with his personal finances thereby poking the proverbial bear, which led to this contrary decision of the common understanding of the rule. According to the courts explanation of the fact ,Mr. Bobrow withdrew $65,000 from his first IRA account with the intention of re -depositing the funds within 60 days in order to have the transaction treated as an IRA rollover rather than a taxable distribution. Bobrow did repay the $65,000 within the 60 days window. If he had stopped there all would have been fine. He had not made any further rollovers for a year there would be no case against him. The problem though is that just before Bobrow repaid the $65,000 to his first IRA account, he took $65,000 out of a second account. And just before the 60 day period for the second withdrawal expired Bobrow wife took $65,000 out of her IRA . The Bobrow then presumably using the distribution from the wife IRA repaid the $65,000 distribution from the husband second account IRA account. Later, they repaid the wife IRA withdrawal. They did not report any of these transactions to the IRS rollovers as they fit within IRS Code 408 (d)(3)(B) as commonly understood and explained in Publication 590.They felt they were acting in accordance with the letter of the law (AS commonly understood),if not the spirit of the law. Why did they do this? The court opinion does not address their thinking; however the transactions occurred during the financial crisis of 2008 and it is speculated that the Bobrows needed access money but wished to avoid a taxable distribution, essentially IRA loan.
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he case has spurred a massive reaction within the tax community, as financial planners race to review and revise their IRA rollover guidance and policies. However this reaction may be more of an overreaction. As mentioned above, the “one roll-over-per-year” rule only applies to rollovers made via distributions where you actually take control of the money you withdraw from your IRA for a period of time ,and later (within 60 days) redirect it either back to the original IRA or into another IRA. Direct rollovers from trustee – to-trustee, the way most people move IRA funds, and having always been exempt from the rule or, into another IRA funds, have always been exempt from the rule. Unfortunately there are legitimate reasons some people may need to make multiple IRA rollovers in a year and have access to the funds to be moved (the Bobrows arguably had a legitimate reason), and the Bobrow decision will affect that ability. It is unclear whether the IRS will change its approach to rollover from multiple IRAs following this case, but owners of multiple IRAs are well –advised to space out future rollovers to comply with this new interpretation.

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