IRA Withdrawals Pursuant to Forged Signatures by Wife Aren't Taxable to Husband.
(Parker Tax Publishing January 2014)

Two thousand and eight was not a very good year for Andrew Roberts. Not only did he separate from his wife, Cristie, but, unbeknownst to him, she was forging his signature and taking withdrawals out of his IRA accounts and depositing them into a joint account only she could access. Apparently thinking they were still on good terms, Andrew allowed Cristie to prepare their tax return for 2008, as she had done in prior years.

Although he understood they would be filing a joint return, as in the past, she in fact prepared his return with a filing status of single. In addition, she omitted the IRA distributions from his income, underreported his W-2 income, and overstated the credit for tax withheld. She then filed the return electronically and had the refund deposited electronically into the same bank account used for the misappropriated IRA funds. In 2010, Andrew received a notice of deficiency from the IRS.

In Roberts v. Comm'r, 141 T.C. No. 19 (12/30/13), the Tax Court was asked to decide an issue of first impression: whether IRA withdrawals, made pursuant to forged withdrawal requests, that are not received by or used for the economic benefit of the purported distributee are includible in his gross income. Luckily for Andrew, the Tax Court judge concluded that that the answer is "no."

Background

In 2008, Andrew Roberts worked for the U.S. Air Force and his wife, Cristie, worked for Bethel Transportation. While they maintained joint checking accounts at Washington Mutual and Harborstone Federal Credit Union, Andrew exclusively used the Harborstone account and Christie exclusively used the Washington Mutual account. Andrew did not have a checkbook for, write checks on, or make withdrawals from, the Washington Mutual account, and he did not receive or review the bank statements for the Washington Mutual account during 2008. Andrew also owned two IRA accounts, one at AIG SunAmerica and one at ING.

In September 2008, SunAmerica received a request purportedly from Andrew to withdraw $9,000 from his SunAmerica IRA. The withdrawal request was received from a fax machine at Bethel Transportation and was signed "Andy Roberts." The signature was not Andrew's and was forged. SunAmerica issued a check made payable to Andrew from his SunAmerica IRA pursuant to the faxed withdrawal request. The SunAmerica check was endorsed "Andy Roberts" and was deposited into the Washington Mutual account. The signature was not Andrew's.

In November and December of 2008, ING issued a $9,000 check and a $18,980 check, respectively, made payable to Andrew from his ING IRA. Each ING check was endorsed, "Andy Roberts" and was deposited into the Washington Mutual account. However, Andrew, did not endorse either of the ING checks, and he did not authorize anyone to sign the checks on his behalf.

In the months following the IRA withdrawals, Cristie made large withdrawals from the Washington Mutual account. From mid-November 2008 through mid-January 2009, she wrote checks and made withdrawals from the Washington Mutual account totaling $41,257. Christe used the IRA withdrawals to make large purchases at retail stores, such as Old Cannery Furniture, Bed, Bath and Beyond, Ikea, and Target. She also took a vacation and used the funds to set up a household separate from Andrew's. These expenditures were for the sole benefit of Cristie and were made without Andrew's knowledge.

Andrew learned about the withdrawals sometime in 2009 when he received Forms 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc., with respect to the purported distributions. He did not learn of Cristie's involvement in cashing the IRA checks and using the proceeds until their divorce proceedings in 2009.

During the divorce proceedings, Andrew told the court that Cristie had taken and used the funds from his IRA accounts without his knowledge or permission. In finalizing the divorce in 2010, the court took into account that Cristie had withdrawn funds from Andrew's IRA accounts.

Preparation of 2008 Tax Return

For each year of their marriage until 2008, Cristie prepared and filed a joint income tax return for Andrew and herself. Sometime before April 2009, Andrew, although separated from Cristie, discussed with her the preparation and filing of a joint income tax return for 2008, and he understood from that conversation that he and Cristie would still file a joint return. He gave his tax information to her so that she could prepare the 2008 joint return. However, without telling him, Cristie prepared and filed separate returns for herself and Andrew.

Cristie prepared her return for 2008 using the married filing separate filing status, but she prepared Andrew's return using the single filing status. On Andrew's return, Cristie did not report the IRA distributions, underreported Andrew's wage income by $3,000, claimed an overstated credit for withheld tax, and omitted $74 of interest income. As prepared, Andrew's return claimed that he was entitled to a refund of a $3,357, which was electronically deposited into Cristie's Washington Mutual account. Cristie did not show the return to Andrew or give him a copy of the return, despite his asking for one. Thus, Andrew did not sign or see his 2008 tax return before its filing.

IRS Assessments on Andrew's 2008 Tax Return

On August 2, 2010, the IRS issued Andrew a notice of deficiency. In the deficiency notice, the IRS determined that Andrew had failed to report income of approximately $37,000 attributable to the IRA withdrawals and adjusted the resulting tax deficiency by the amount of the overstated withholding credit. The IRS also increased the deficiency to account for the incorrect filing status used on Andrew's 2008 return.

According to the IRS, Andrew was the distributee of the IRA funds and was responsible for including the withdrawals in income under Code Sec. 408(d). Andrew was also liable, the IRS said, for the 10 percent penalty tax under Code Sec. 72(t) on early distributions from qualified retirement plans. Finally, the IRS assessed an accuracy-related penalty under Code Sec. 6662(a) due to a substantial understatement of income tax.

Taxation of IRA Distributions

Code Sec. 408(d)(1) provides that any amount paid or distributed out of an IRA is included in the gross income of the payee or distributee as provided under Code Sec. 72. Generally, under the decisions in Bunney v. Comm'r, 114 T.C. 259 (2000), and Darby v. Comm'r, 97 T.C. 51 (1991), the payee or distributee of an IRA is the participant or beneficiary who is eligible to receive funds from the IRA.

However, the taxable distributee may be someone other than the recipient or purported recipient eligible to receive funds from the IRA. In Bunney v. Comm'r, 114 T.C. 259 (2000), the Tax Court rejected the contention that the recipient of an IRA distribution is automatically the taxable distributee. Neither the Code nor the regulations define the terms "payee" or "distributee" or provide specific guidance on when an amount is considered to have been paid or distributed to a payee or distributee under Code Sec. 408(d)(1). Under most circumstances, the payee or distributee is easily identifiable. In the instant case, however, the Tax Court was presented with a novel question: Are IRA distributions made pursuant to forged withdrawal requests that are not received by the purported distributee or used by the purported distributee for his or her economic benefit distributions that are includible in the gross income of the purported distributee under Code Sec. 408(d)?

Taxpayer and IRS Arguments

Andrew argued that because the IRA withdrawals were made pursuant to forged withdrawal requests, the distribution checks were stolen, the signatures on the distribution checks were forged, and he did not receive an economic benefit from the distributions, he was not a payee or distributee within the meaning of Code Sec. 408(d)(1). He also contended that under state law (Washington), no distribution occurred from either the SunAmerica IRA or the ING IRA because he did not authorize the IRA withdrawal requests or the endorsements on the IRA distribution checks. Therefore, Andrew contended that, as a matter of state law, no amount was paid or distributed within the meaning of Code Sec. 408(d)(1).

According to the IRS, Andrew had to include in income the amounts withdrawn from his IRAs irrespective of state law and even though he did not consent to the distributions and was not aware that the distributions occurred. Andrew was responsible for reporting the withdrawals as taxable distributions, the IRS said, because he was the owner of the IRAs and was the person entitled to receive distributions from the IRAs. In making this assertion, the IRS relied on the Tax Court's decision in Bunney and Vorwald v. Comm'r, T.C. Memo. 1997-15. In Vorwald, the Tax Court held that a distribution of funds from an IRA pursuant to a court-ordered garnishment resulted in a taxable distribution to the taxpayer. The garnishment was ordered to satisfy the taxpayer's child support obligation. The taxpayer in Vorwald did not consent to the distribution from his IRA and did not realize the distribution had occurred until he was notified of the distribution by the IRS. Nevertheless, the Tax Court held that the distribution was income to the taxpayer because it discharged his legal child support obligation and was thus the equivalent of receipt by him.

Further, the IRS argued, the IRA account withdrawals were deposited into the Washington Mutual account, which was jointly owned by Andrew and Cristie, and were used, in part, to pay family living expenses, medical expenses, and a family Verizon Wireless account during the time Andrew and Cristie lived together.

The IRS emphasized that Andrew never attempted to return the funds to the IRAs after he discovered the payments, nor did he otherwise contest the distributions. Citing PLR 201119040 as an example, the IRS stated that, if IRA funds are stolen and the owner of the IRA receives a refund of the stolen funds, the owner can deposit the refund into the IRA as a tax-free rollover. However, because Andrew took no steps to replenish his IRAs for the allegedly stolen amounts, the IRS contended that Andrew had to recognize income equal to the distribution amounts in 2008.

Tax Court's Holding

Both Andrew and Cristie testified at trial. The court found credible Andrew's testimony that he did not sign the SunAmerica withdrawal request, endorse the SunAmerica IRA distribution check, endorse the ING IRA distribution checks, or authorize any person to do so on his behalf. The court also found that he credibly testified that he did not learn of the IRA distributions until he received the Forms 1099-R sometime in 2009.

On the other hand, the court did not find credible Cristie's testimony that she was unaware of the source of the deposits made to the Washington Mutual account when, in many instances, the deposits dwarfed the account's balance at the time. Her testimony, the court said, was particularly unbelievable in the light of the evidence that she made large cash withdrawals and purchases in close proximity to the deposits of the IRA checks. In short, the court concluded that Cristie, not Andrew, received, spent, and benefited from the IRA distributions.

The court then addressed whether Andrew was a distributee within the meaning of Code Sec. 408(d)(1) when he did not authorize the withdrawal requests, did not receive or endorse the IRA distribution checks, and did not receive an economic benefit from the distributions. The court noted that, in Bunney, it stated that in the context of a distribution from a pension plan, the term "distributee" is not necessarily synonymous with "recipient." The court thus rejected the IRS's contention that Andrew, as the purported recipient of the IRA distributions, is automatically the taxable distributee under Bunney

With respect to the Vorwald decision, the Tax Court noted that the distributions from Andrew's IRAs were not court ordered and did not satisfy a legal obligation that Andrew owed to Cristie or any other party. Instead, the distributions were unauthorized and completed without Andrew's knowledge. In addition, the court observed, Andrew did not receive any benefit, directly or indirectly, from the distributions in 2008, as Cristie used the funds from the unauthorized withdrawals to set up her post-separation household, take a vacation, and pay expenses for which she was liable. Vorwald was distinguishable because the funds at issue in that case were legally obtained and were applied to a liability for which the taxpayer was personally liable. Because Andrew did not request, receive, or benefit from the IRA distributions, the court concluded he was not a payee or distributee within the meaning of Code Sec. 408(d)(1).

The court then addressed whether Andrew was a distributee within the meaning of Code Sec. 408(d)(1) because he allegedly benefited from the IRA distributions or because he failed to file a claim against ING or SunAmerica for an unauthorized payment.

Under the IRS's analysis, the court noted, Andrew acquiesced to the distributions by not making a claim under state law and by accepting the proposed settlement in his divorce, which the parties stipulated was "taken into account" in the decree of dissolution. Under Washington law, the court said, Andrew could have made a claim to restore his IRA accounts within one year of the unauthorized withdrawals. That right, the court observed, did not expire until sometime in 2009. Similarly, the decree of dissolution allocating property between Andrew and Cristie was not entered until 2010. At best, the Tax Court said, under the IRS's theory, Andrew did not ratify the IRA distributions until 2009 at the earliest. Accordingly, any failure by Andrew to exercise his rights under Washington law and any purported benefit he received in the divorce did not affect the Tax Court's conclusion that he was not a payee or distributee within the meaning of Code Sec. 408(d)(1) in 2008, the year at issue.

With respect to the 10 percent penalty tax under Code Sec. 72(t), the court concluded that, because it held that the withdrawals from Andrew's IRA accounts at SunAmerica and ING were not distributions taxable to him under Code Sec. 408(d)(1) in 2008, he was not liable for the additional tax under Code Sec. 72(t).

OBSERVATION: Because Andrew had until 2009 to avail himself of certain remedies to have his IRA accounts restored, the IRS may yet argue that Andrew's failure to exercise available remedies under Washington law resulted in a constructive distribution from the IRA accounts in 2009.

Finally, with respect to the Code Sec. 6662 penalty for substantial underpayment of tax, the court noted that Andrew did concede that he failed to report, and underreported, certain income in 2008. Accordingly, to the extent computations show that the understatement of tax exceeds the greater of 10 percent of the tax required to be shown on the return or $5,000, Andrew is liable for the Code Sec. 6662(a) penalty. (Staff Editor Parker Tax Publishing)

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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