Life and Death Planning for Retirement Benefits

Chapter 2: Income Tax Issues

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He has taken out 100 percent of his (remaining) plan balance in Year 2. Is the Year 2 distribution an LSD? It would be, if the “balance to his credit” simply meant the balance as of the date of distribution—but that is not what it means. Rather, the rule means that the balance to the credit of the employee as of the first distribution following the most recent triggering event ( ¶ 2.4.03 ) must be distributed within one taxable year. See Notice 89-25, 1989-1 C.B. 662, A-6; Prop. Reg. § 1.402(e)-2(d)(1)(ii); Rev. Rul. 69-495, 1969-2 C.B. 100. Elaine Example: After Elaine retired from Acme in Year 1 at age 64, she withdrew $60,000 from her $800,000 Acme Profit-sharing Plan account in order to fulfill her dream of traveling around the world in a submarine. Returning to the U.S. in Year 2, she withdraws the rest of her account. This final distribution would not qualify for LSD treatment because the entire balance that existed on the date of the most recent triggering event (separation from service) was not distributed all in one calendar year. In contrast, suppose Elaine, upon returning from her cruise, died on her way to the Acme benefits office. Now there is a new triggering event, the employee’s death. Her beneficiary can elect LSD treatment for her remaining plan balance even though Elaine, had she lived, could not have done so. Or suppose Elaine had withdrawn the $60,000 for her cruise before she retired. Then her later separation from service would have been a new triggering event, and the final distribution would qualify for LSD treatment. The IRS Instructions for Form 4972 (2009) make no reference to this requirement. Prior distributions from the same plan are referred to only in connection with the rule that if any prior distribution from the same plan was rolled over, subsequent distributions cannot receive special averaging treatment (see ¶ 2.4.06 ). These instructions give the impression that the IRS regards the triggering events as obsolete. However, unless the IRS has had an unpublicized change of heart, Notice 89-25 is still in effect. The Code’s definition of LSD still includes the requirement that the distribution be of the “balance to the credit” of the employee which becomes payable “after the employee attains age 59½,” or “on account of” the participant’s death, separation from service, etc.. Failure to distribute the entire balance in one calendar year is a mistake you cannot fix. In PLR 2004-34022, a retiring employee intended to have all of the employer stock in his account in his employer’s QRP distributed outright to him and to have all of the other assets in his account distributed directly to his IRA. Through a paperwork error, the distribution of employer stock occurred in 2002, but the transfer of the other assets did not occur until 2003. He did not have an LSD. The IRS ruled that it could not allow him an extension of the all-in-one-year deadline. Here are more land mines surrounding this hurdle: A. Landmine: Post-distribution additions. Does a post-distribution addition to the employee’s account retroactively destroy the LSD status of the distribution? That depends: The “balance to the credit” of the employee (which must be distributed “in one taxable year”) is determined as of the first distribution following the most recent triggering event. If there is an addition to the account after that date (for example, a new employer contribution), that new addition is not part of the balance that must be distributed within the same taxable year to qualify for LSD treatment. If it is distributed within the same year, it is treated as part of the LSD; if it is