Life and Death Planning for Retirement Benefits

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Life and Death Planning for Retirement Benefits

to make it worthwhile not to roll over any part of the distribution, then pay tax on the taxable portion using the special averaging method. B. Rolling over part of the NUA stock. If the employee rolls over some but not all of the employer stock, the NUA and plan’s “cost basis” must be allocated, somehow, between the rolled and the nonrolled stock. Grace Example: Grace, age 52, receives an LSD of $1 million, consisting entirely of employer stock, of which $300,000 is the plan’s basis and $700,000 is NUA. She rolls over 30 percent of the stock to an IRA within 60 days. How are the NUA and plan-basis allocated as between the rolled and nonrolled stock? Grace would like to allocate all of the $700,000 of NUA to the stock that is not rolled over, and allocate all of the $300,000 of plan-basis to the stock that is rolled over to the IRA. The advantages of that allocation are: She pays no current income tax and no 10 percent “premature distributions” penalty, because the “taxable income” part of the distribution ($300,000) was entirely rolled over; she pays no current income tax on the $700,000 NUA portion (because it’s NUA); and when she eventually sells the NUA stock the first $700,000 of sales proceeds will be long-term capital gain. Grace’s preferred method of allocation would be correct according to § 402(c)(2) , which provides that, in the case of a distribution which is partially rolled over to an IRA, the rolled portion “shall be treated as consisting first of the portion of such distribution that is includible in gross income…”. See ¶ 2.2.05 (C). This interpretation was endorsed by the IRS in the well-reasoned PLR 8538062. A more recent apparent “endorsement” is PLR 2011-44040, in which the IRS granted a “hardship waiver” of the 60-day rollover deadline ( ¶ 2.7.05 ) to an employee who rolled over to an IRA a portion of a lump sum distribution of NUA stock equal to the amount of the plan’s basis as it had been reported to him by the employer. After expiration of the 60-day rollover deadline, the employer sent the employee a corrected for 1099-R showing a larger portion of the LSD as “plan basis.” The IRS allowed the employee to roll over, late, an additional amount of stock to absorb this additional taxable income, stating that P had established that “his failure to accomplish a timely rollover of Stock Amount 3 was caused by the erroneous taxable income amount information that was furnished to him by Company B.” See also PLR 9840041, in which an employee took a distribution of his entire balance from an employer plan, rolled over the taxable portion of the distribution, and did not roll over the nontaxable amounts. These PLRs could be helpful as supporting this allocation approach—for example, to show an agent in case of an IRS audit. The approach (taxable income is absorbed first by the rollover) is consistent with other regulations on similar subjects. See Reg. § 1.402A-1 , A-5(b), dealing with a partial rollover of a nonqualified distribution from a designated Roth account (taxable portion is deemed rolled over first); and Reg. § 1.402(c)-2 , A-8 (if a partially taxable distribution is received in the same year as a distribution is required under § 401(a)(9) , the nontaxable portion is allocated first to the RMD, which cannot be rolled over, and the taxable portion is therefore treated as an eligible rollover distribution to the maximum extent possible). A different approach would be to allocate NUA and ordinary income proportionately to the rolled and nonrolled stock; this approach appears possibly to have been used in PLR 2000-38050. Other PLRs dealing with partial rollovers of NUA stock do not discuss how basis and NUA are allocated between the rolled and nonrolled shares; see, e.g. , PLRs 2002-43052, 2002-15032.