Taxpayer Could Not Exclude Uncashed Check for a Qualified Retirement Plan Distribution from Income

(Parker Tax Publishing August 2019)

The IRS ruled that a taxpayer's failure to cash a designated retirement plan distribution check did not entitle her to exclude the distribution from taxable income in the year received because she had no investment in the contract within the meaning of Code Sec. 72 and no exception to Code Sec. 402(a) applied. The IRS also ruled that, because the distribution was a designated distribution that exceeded the reporting threshold, the taxpayer's failure to cash the check did not alter the employer's reporting and withholding obligations under Code Sec. 6047(d) and Code Sec. 3405. Rev. Rul. 2019-19.

Background

An employer is the plan administrator of a qualified retirement plan under Code Sec. 401(a) that does not include a qualified Roth contribution program under Code Sec. 402A(b). A distribution of $900 is required to be made from the plan to a taxpayer in 2019. The taxpayer has no investment in the contract within the meaning of Code Sec. 72 with respect to her plan benefit, has a calendar year tax year, and has never made a withholding election with respect to her plan benefit.

The employer makes the required $900 distribution, a designated distribution within the meaning of Code Sec. 3405(e)(1), withholds tax as required under Code Sec. 3405(d)(2), and mails a check for the remainder to the taxpayer. Although the taxpayer receives the check and can cash it in 2019, she does not do so. The taxpayer does not rollover any portion of the designated distribution, and no other exception under Code Sec. 402(a) to including the amount in income applies.

Code Sec. 402(a) provides that, except as otherwise provided in Code Sec. 402 (for example, a rollover under Code Sec. 402(c)(1)), any amount actually distributed to a distributee by an employees' trust described in Code Sec. 401(a) which is exempt from tax under Code Sec. 501(a) is taxable to the distributee in the year distributed. Code Sec. 72 provides rules relating to inclusion in gross income of amounts received from qualified plans and certain other arrangements.

Under Code Sec. 3405(d)(2), a plan administrator must withhold, and is liable for, payment of the tax required to be withheld under Code Sec. 3405 unless the plan administrator directs the payor to withhold the tax and provides the payor with such information as the IRS may require by regulations. Under certain circumstances, withholding on a designated distribution is not required. For example, under Reg. Sec. 31.3405(c)-1, no withholding is required if the amount of an eligible rollover distribution (as defined in Code Sec. 402(f)(2)(A)) is less than $200 (subject to specified aggregation rules).

Under Code Sec. 6047(d), an employer that maintains an employee plan that can make designated distributions (or the plan administrator of such a plan), and any person that issues a contract that can make designated distributions, must meet certain reporting requirements in connection with the plan or contract. The employer or plan administrator must also keep any records that the IRS may require to provide the necessary data base for current or future reporting. Form 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc., is used to satisfy the reporting obligations under Code Sec. 6047(d). Under the 2019 instructions to Form 1099-R, a Form 1099-R must be filed for each person to whom a designated distribution of $10 or more has been made, and the total amount of the distribution (before income tax or other withholding) must be reported in Box 1. In addition, the taxable amount of the distribution (including income tax withheld) must be reported in Box 2a, and the federal income tax withheld must be reported in Box 4.

In Rev. Rul. 2019-19, the IRS was asked (1) whether the taxpayer's failure to cash the distribution check she received in 2019 permitted her to exclude the amount of the designated distribution from her gross income in that year under Code Sec. 402(a), and (2) whether the taxpayer's failure to cash the check altered the employer's obligations with respect to withholding under Code Sec. 3405 and reporting under Code Sec. 6047(d).

Analysis

The IRS ruled that the taxpayer's failure to cash the distribution check she received in 2019 did not permit her to exclude the amount of the designated distribution from her gross income in that year under Code Sec. 402(a). The IRS also ruled that the taxpayer's failure to cash the distribution check did not alter the employer's obligations with respect to withholding under Code Sec. 3405 or reporting under Code Sec. 6047(d).

The IRS noted that the taxpayer received the distribution in 2019 and, because the taxpayer had no investment in the contract within the meaning of Code Sec. 72 and no exception to Code Sec. 402(a) applied, the amount of the designated distribution was includible in the taxpayer's gross income in 2019.

Observation: The IRS said that whether the taxpayer kept the check, sent it back, destroyed it, or cashed it in a later year was irrelevant.

Regarding the employer's withholding obligation, the IRS stated that, as the plan administrator, the employer withheld tax as required under Code Sec. 3405(d)(2) from the taxpayer's designated distribution. The IRS concluded that the taxpayer's failure to cash the distribution check did not alter the employer's obligations with respect to withholding of tax, and liability for payment of that tax, under Code Sec. 3405.

The IRS also noted that the distribution to the taxpayer, including both the amount of the check and the amount withheld, was a designated distribution under Code Sec. 3405(e)(1) that exceeded the reporting threshold. According to the IRS, the employer was therefore required to report that designated distribution in Box 1 of Form 1099-R for 2019. The IRS explained that, because the taxpayer had no investment in the contract, and no exception to income inclusion under Code Sec. 402(a) applied, the employer had to report the same amount in Box 2a as in Box 1 and report the federal income tax withheld in Box 4. The IRS concluded that the taxpayer's failure to cash the distribution check she received did not alter the employer's obligations with respect to reporting under Code Sec. 6047(d).

For a discussion of the taxation of required distributions from qualified plans, see Parker Tax ¶131,505.

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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