IRS Provides for Late Rollover Relief, But is it Good Enough?

Generally, a distribution from a qualified plan, §403(b) annuity plan, §457 eligible governmental plan or IRA will not be included in income if it is transferred to an eligible retirement plan no later than the 60th day following the day of receipt.   If a taxpayer fails to complete a transfer within the 60-day window, the distribution is fully taxable in income and the early distribution penalty under §72(t) may apply.  Recognizing that real life hardships can prevent a taxpayer from meeting the 60-day requirement, §402(c)(3)(B) and §408(d)(3)(I) provide that the Secretary can waive the 60-day rollover requirement in situations where failure to waive the requirement would be against equity or good conscience, including casualty, disaster, or other events beyond the reasonable control of the individual subject to the requirement.   While waivers have only been granted by the IRS beginning in 2002, there have been many waivers requested to-date and the reasons offered for a waiver cover a broad spectrum of scenarios.  Generally, waivers are granted when:  (1) a financial institution or advisor, IRA custodian or qualified plan makes a mistake in implementing the rollover or provides the taxpayer with incorrect advice; (2)  the taxpayer delays completion of a rollover due to his or her own medical condition (including severe emotional distress, see PLR 201323044) or the medical condition of someone close to the taxpayer; (3) a financial institution mistakenly transfers funds to non-IRA accounts due to the use of the wrong account number; or (4) a financial institution, advisor or qualified plan commits fraud or misappropriates funds.  

Generally, taxpayers request a waiver by submitting a request for a letter ruling under procedures set forth in the fourth revenue procedure of each year (e.g., Rev. Proc. 2016-4).  Under certain circumstances, a waiver is automatic, and a request for a letter ruling is not required if there are errors committed solely by a financial institution, provided that funds are deposited into an eligible retirement plan within one year from the beginning of the 60-day rollover period. 

The IRS has released new guidance under Rev. Proc. 2016-47, 2016-37 I.R.B. __ that provides that taxpayers may now make a written self-certification that a contribution meets the requirements for a waiver of the 60-day rollover requirement.  The self-certification may only be used if the reason for the delinquent contribution is for one of the following specifically-enumerated reasons: (1) an error was committed by the financial institution receiving the contribution or making the distribution to which the contribution relates; (2)  the distribution, having been made in the form of a check, was misplaced and never cashed; (3) the distribution was deposited into and remained in an account that the taxpayer mistakenly thought was an eligible retirement plan; (4)  the taxpayer's principal residence was severely damaged; (5) a member of the taxpayer's family died; (6) the taxpayer or a member of the taxpayer's family was seriously ill; (7) the taxpayer was incarcerated; (8) restrictions were imposed by a foreign country; (9) a postal error occurred; (10) the distribution was made on account of a levy under §6331 and the proceeds of the levy have been returned to the taxpayer; or (11) 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.

Taxpayers may make a self-certification by using the model letter in the appendix to Rev. Proc. 2016-47 on a word-for-word basis (this generally entails checking off all the reasons that apply for a waiver and attesting to the consequences of making the self-certification), or can use a letter that is substantially similar in all material respects.  Taxpayers must keep a copy of the certification in their files so that it can be presented to the IRS on audit.

Several other conditions exist that are important.  Contributions must be made “as soon as practicable” after the reason or reasons a taxpayer is unable to satisfy the rollover deadline no longer prevent the taxpayer from making them. The IRS has provided a 30-day safe harbor wherein this “as soon as practicable” requirement will be deemed satisfied.  In addition, under no event can a self-certification be used if the taxpayer has received a previous denial of a waiver.

What does a self-certification provide?  Generally, a plan administrator or IRA trustee may rely on a taxpayer’s self-certification in determining whether a taxpayer has satisfied the 60-day rollover requirement, except to the extent that it has actual knowledge to the contrary of what is asserted in the self-certification.  The taxpayer, on the other hand, does not get a complete pass by the IRS.  While the taxpayer may use a self-certification to report a contribution as a valid rollover (e.g., on his or her tax form), the self-certification is not treated officially as an actual waiver.  This means that, assuming there is no statute of limitations bar, the IRS can always come in later under an examination and determine that the requirements for a waiver were not met (e.g., due to a material misstatement of the facts or if the contribution is not made as soon as practicable).  Under these circumstances, the taxpayer would be liable for income taxes as well as interest and penalties and these amounts could be steep if several years have passed. 

The extent that the self-certification provided in Rev. Proc. 2016-47 is good news to taxpayers depends on how risk-adverse they are.  Because the self-certification does not serve as an automatic waiver upon which the taxpayer can rely should the IRS later open up an examination and assert interest and penalties, some taxpayers may feel more comfortable directly applying for a waiver ruling request.   For example, what exactly does it mean to be “seriously ill” enough for the IRS to grant a waiver?  Does this encompass mental as well as physical illnesses?  In PLRs where the waiver was granted due to physical illness, the illnesses have ranged from fairly benign in severity (difficulty sleeping, anxiety, and memory lapses in PLR 201612016) to very serious (terminal brain cancer in PLR 201443032 ).  Similarly, in PLRs where the waiver was granted due to mental illness, the illnesses have ranged from moderate clinical depression (PLR 201535029) to severe bipolar disorder (PLR 201228046) and even a psychotic breakdown of the taxpayer’s child (PLR 201234031).   To make matters more confusing, the IRS has denied a waiver in at least one case where the taxpayer was undergoing treatment for cancer, which seems a pretty serious health issue (PLR 201301017).    Keep in mind as well that taxpayers aren’t even allowed to rely on other taxpayers’ PLRs. 

On the other hand, some taxpayers may feel the risk of self-certifying is worthwhile, given the amount of time and money it may take to have a tax professional prepare a waiver request or sort through numerous PLRs looking for an identical fact scenario (although that’s one reason why taxpayers use our BBNA products – we have gone through tons of waiver PLRs and summarized them in our tax portfolios!).   

Of course, no one will have any problem if the rollover contribution is timely made within the 60-day period.  Perhaps that’s what taxpayers should be focusing on the most.