United States

The US Tax Court changes the game on IRA rollovers

TAX ALERT  | 

A recent U.S. Tax Court decision challenges a long-accepted understanding of how the 60-day IRA rollover rules work. Generally, a distribution from an IRA is taxable. However, a taxpayer can withdraw, tax free, all or part of the assets from one traditional IRA if the assets are reinvested within 60 days in the same or another traditional IRA. This is the so-called 60-day rollover exception. A taxpayer is permitted only one 60-day rollover during any one-year period.

In Bobrow v. Commissioner, the taxpayer had two different IRAs, referred to herein as IRA No. 1 and IRA No. 2. On April 14, 2008, the taxpayer withdrew $65,064 from IRA No. 1 and on June 10, 2008, the taxpayer re-contributed that same amount to IRA No. 1. On June 6, 2008, the taxpayer withdrew $65,064 from IRA No. 2 and repaid IRA No. 2 by re-contributing $65,064 to IRA No. 2 on Aug. 4, 2008.

At issue in Bobrow was whether the one 60-day rollover per year rule applies to all of a taxpayer’s IRAs or to each IRA separately. Historically, many taxpayers and tax practitioners have operated under the assumption that the rollover rule applies separately to each IRA. Though the language in the Internal Revenue Code provides no support for this approach, the IRS’s comprehensive publication on individual retirement arrangements (IRS Publication 590, last published on Jan. 5, 2014) provides the following example of the rule:

“You have two traditional IRAs, IRA-1 and IRA-2. You make a tax-free rollover of a distribution from IRA-1 into a new traditional IRA (IRA-3). You cannot, within one year of the distribution from IRA-1, make a tax-free rollover of any distribution from either IRA-1 or IRA-3 into another traditional IRA.

However, the rollover from IRA-1 into IRA-3 does not prevent you from making a tax-free rollover from IRA-2 into any other traditional IRA. This is because you have not, within the last year, rolled over, tax free, any distribution from IRA-2 or made a tax-free rollover into IRA-2.”

The IRS issues Publication 590 annually to assist taxpayers in preparing their individual income tax returns, and the above example has been in this publication for at least 20 years. The example in the publication is based on language in a regulation that the IRS proposed in 1981 but never finalized.

In Bobrow, the court stated that the taxpayer was not entitled to rely on or cite as authority the example in the IRS publication and found that the taxpayer was not entitled to tax-free rollover treatment on the second distribution. It does not appear that the taxpayer cited the IRS’s proposed regulation as authority for its position.

It remains unclear why the IRS chose this time and this taxpayer to assert a position that runs contrary to more than 30 years of its own issued guidance. However, unless the taxpayer chooses to appeal this decision and is successful in having the decision overturned, IRA owners are now on notice that the IRA rollover game has changed.

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