Early Distribution Penalty

[KBTS]

Taxpayer called me with a question concerning the 10% early distribution penalty on an IRA account. Husband and wife each took a distribution from their IRA due to the wife’s disability. Since she is disabled, I know she can avoid the 10%; but taxpayer says former accountant told him that he can avoid the penalty as well since they needed to the money to maintain their lifestyle due to the disability. I have never heard of such a thing and cannot find anything to support this view. Anyone else know what accountant was talking about, or was he just wrong?

[taxmandan]

Early distribution

I don't see "maintaining a life style to which I have become accustomed" as an exception to the early withdrawal penalty. Unless there is more to it than the client has told you, the other accountant is wrong. Maybe her disability has created large medical bills that they had to pay out of pocket?

[Bees Knees]

Section 72(t)(2)(A)(iii) says “…attributable to the employee’s being disabled within the meaning of subsection (m)(7)…”

The term “employee” in the context of section 72 refers to the individual who is the participant in the plan (whether it is an IRA or qualified employer plan).

Therefore, a strict reading of the language implies that it has to be the IRA owner who is disabled. There is nothing in the language to suggest the spouse also would qualify, unless of course the spouse was disabled also.

The medical expense deduction, however, could qualify because that language merely states it applies to the extent such distributions do not exceed the amount allowable as a deduction under section 213 to the employee. Since the employee can deduct medical expenses for a spouse or dependent, that exception would apply.

[jainen]

only a guess

My guess (and it's only a guess) is that the other accountant was NOT wrong. Clients often hear only what they want, ask different people until they get a favorable answer, or try to use some supposed reference as an authority to support their position.

[KBTS]

re: only a guess

I know that clients often only hear what they want to hear, but the IRS caught this on a review of the return. Taxpayer already spoke to the IRS and paid amount due. They were contacting accountant to ask why original return was incorrect. Taxpayer didn't buy the excuse and was confirming with me that it was wrong.