Life and Death Planning for Retirement Benefits

Chapter 2: Income Tax Issues

143

If the employer maintains more than one plan, and it is proposed to take an LSD from only one of them, have the employer certify that this requirement is met.

Exceptions to the all-in-one-year rule

“[A]ccumulated deductible employee contributions” can be ignored in determining whether the employee has received a distribution of his entire plan balance. § 402(e)(4)(D)(i) . This type of contribution, which was permitted under § 72(o) only for the years 1982–1986, is rarely encountered. Another exception, apparently: “Dividends to ESOP participants pursuant to section 404(k)(2)(B) of the Code are not treated as part of the balance to the credit of an employee for purposes of the lump sum distribution rules...Thus, such distribution does not prevent a subsequent distribution of the balance to the credit of an employee from being a lump sum distribution,” according to the IRS in PLRs 9024083, 1999-47041. Note that RMDs are not ignored in applying the all-in-one-year rule. If a retired participant or a beneficiary starts taking RMDs from the plan, he must take out the entire plan balance in the same calendar year he takes the first RMD, or he will lose out on LSD treatment unless there is a subsequent new triggering event. If an LSD meets certain additional requirements (no portion of the distribution may be rolled over, etc; see Form 4972), the LSD can be taxed separately, using the “10-year averaging” and/or “20 percent capital gain” methods. These two special tax deals are referred to collectively as the “ special averaging method .” An LSD for which a proper election is made to use these methods is excluded from the recipient’s adjusted gross income (AGI), and is instead taxed using special rates. Former § 402(d)(3) ; § 62(a)(8) . These Code sections have been repealed for years after 1999, but still apply (under the “transition rule”) to participants born before 1936; see effective dates for amendments to § 62 and § 402 . The special averaging method is available only for individuals “who attained age 50 before 1 - 1 - 86.” TRA ’86 § 1122(h)(3), (5), (6), as amended by TAMRA ’88, § 1011A(b), (13)–(15). The IRS variously interprets this as applying to anyone born before January 2, 1936 (see IRS Form 4972 (2016), lines 3–4), or before January 1, 1936 (see Notice 2009-68, 2009-39 IRB 423, p. 429). For more information regarding this grandfather rule, see Instructions for IRS Form 4972, and the Special Report: Ancient History ( Appendix C ). 2.5 Net Unrealized Appreciation of Employer Stock This ¶ 2.5 describes the special favorable tax treatment available for “lump sum distributions” (and certain other distributions) of employer stock from a retirement plan. For definition of lump sum distribution, see ¶ 2.4.02 – ¶ 2.4.05 . For Roth conversion of NUA stock, see ¶ 5.4.04 (A). For charitable gifts of NUA stock, see ¶ 7.7.04 . Special averaging: Participant born before 1936

NUA: Tax deferral and long-term capital gain

The Code gives special favorable treatment to distributions of employer securities (referred to here as “employer stock,” though the “securities” could be stocks or bonds; § 402(e)(4)(E) ) from a qualified plan. Some plans hold the employer securities inside some type of “single-stock fund”