Inherited Retirement monies -- when?

[Bill Tubbs]

Client is divorced lady; has had custody of her/their two daughters (both younger than 14) since she and hubby divorced a few years ago. Hubby died Sep 2004. The daughters were listed as beneficiaries on his state retirement accounts (he was teacher). Client remembered about his retirement accounts in Mar 2005 and contacted the WI Retirement System. This was the first contact between client and WI Retirement System.

The two 1099-R's that came totaled $40,000/child, and were for tax year 2004. My question is -- the 1099-R was for 2004 but the kids did not receive the money until 2005, so what year is this actually taxable in?

My preference would be to report it in 2004 -- kids had no income in 2004, but in 2005 they had $1500 interest (from the $40,000 being in savings) plus $15,000 in Social Security. If I put the $40,000 in 2004, the tax liability is $9260 -- if I put the $40,000 in 2005, the tax liability because of this $40k jumps to $13,302 ($12000 of SS becomes taxable).

My quandry is: the 1099-R says 2004, so reporting it in 2004 would match the IRS computers. But is that legit since kids did not actually see the money until 2005? If I had not seen the "2004" on the 1099-R, I would have put it in 2005 -- since that's when the client says the kids received the money.

Thanks,
Bill

[Armando Beaujolais]

My quandry is: the 1099-R says 2004, so reporting it in 2004 would match the IRS computers. But is that legit since kids did not actually see the money until 2005? If I had not seen the "2004" on the 1099-R, I would have put it in 2005 -- since that's when the client says the kids received the money.

That's a tough one. You know the answer as to how it should be reported. You wouldn't hesitate to ask for a corrected 1099R if it was the other way around. But you know that reporting the amount for the year on the 1099R is probably the surest way to make sure there are no problems for your client.

[Roland Slugg]

Constructive receipt

Dear Bill

Although I am not certain, I lean towards 2004 as the correct year based on constructive receipt in that year. The fact that the 1099s are 2004 issue also implies that the payor believed 2004 was the correct year, but this could simply be an error on its part.

If the income is reported on the children's 2004 returns, I can't imagine the IRS would ever question it, since it agrees with the 1099s. Having said that, if you attempt to get a penalty reduction or abatement on the basis that the income wasn't received until 2005, this will draw attention to the two possible years involved.

Have you done comparative calculations of late filing penalties, late payment penalties and interest on the tax due for both years in question?

[Bird Legs]

1099r

Have you tried calling the issuers of the 1099Rs and talking with them about this?
Why did the children receive the money in 2005 if it was paid in 2004?
I have had to call the issuers of 1099s on several occassions to get corrected ones.

[Bill Tubbs]

Constructive Receipt

Although I am not certain, I lean towards 2004 as the correct year based on constructive receipt in that year. The fact that the 1099s are 2004 issue also implies that the payor believed 2004 was the correct year, but this could simply be an error on its part.

If the income is reported on the children's 2004 returns, I can't imagine the IRS would ever question it, since it agrees with the 1099s. Having said that, if you attempt to get a penalty reduction or abatement on the basis that the income wasn't received until 2005, this will draw attention to the two possible years involved.

I was wondering about constructive receipt -- the kids could have gotten the money in Sep 2004, so does that mean they had constructive receipt even though they didn't actually get it til 2005. [thinking out loud] Would the constructive receipt argument (combined with the 1099-R being for 2004) be enough of a defense if the IRS ever questioned it so that there would be no preparer penalty? Not like they would ever question it if we did report it on 2004 (and not mention cash was actually received in 2005 when trying to abate penalties).

Have you done comparative calculations of late filing penalties, late payment penalties and interest on the tax due for both years in question?

Oh yeah! Reporting it in 2004 would perhaps cost more in interest/penalties, but no where near the $4000 in tax savings by reporting in 2004.

Bill