SIMPLE IRA - Dont you just love em!!!!

[Ray in Ohio]

In 2006 taxpayer became self employed and rolled over his previous Simple plan that his employer had sponsered into an account that he continued to contribute to in 2006 and 2007. Then in december of 2007 he takes a lump sum distribution of the whole amount, $27,335.21. Has $2647. Federal Tax withheld. Code S on 1099-R. In April of 2005 he had Re-Allocated a large amount of the distribution from a Money Market Account. This amount would be over the two year holding period before the distribution. Is there anyway to avoid paying the 25% penalty on this amount since the 1099 is coded S for the whole amount? I am sure he is not expecting to pay $6800. in tax next week. But "it is what it is".

Any ideas? Suggestions?

Beautiful day here. Windows wide open!!!!!!!!! Tee time anybody??

[jasdlm]

I'm confused. I thought the 2 year period began with the 1st day the TP contributed to the Simple. What does the reallocation to money market in April 2005 change?

Sorry . . . not tracking tonight.

[jklcpa]

yes, I see your problem. The client muddied the waters by comingling the orig SIMPLE from his employer with his own more current contributions. So the custodian thinks the whole thing is within the 2 years. And that's why the code "S" is causing the problem.

The custodian should know that the orig amounts were a roll over (was it a direct rollover) and not a contribution, but then also the new custodian has no way of knowing whether those amounts are beyond the 2 years. That's prob why the whole thing was coded "S" on that 1099 issued.

It seems that you should be able to exclude that portion of the distribution that's attributable to the 1st employer's IRA that was rolled over & exclude that portion from the 25% penalty. However, tax laws aren't always logical & I don't have any reference to give you. Perhaps another forum user has run into this and will offer advice. It's sure to cause a notice or other inquiry by IRS too.

[Ray in Ohio]

jklcpa... You are thinking the exact same way that I was. But if I go to the 5329 and and enter an amount on line 2, it doesn't figure the 25% penalty on any of distribution amount. Of the 27K distribution only 5700. of it was contributed in the the 2 year period prior to the distributiion. My thinking is that the 5700 would be the only amount that is subject to the extra penalty.

jasdlm... I am cunfused too, and thats probably why its not making any sense. I can't find anything either about the reallocation changing anything. AND..... am I not thinking correctly that the 5700. would be subject to the 25% penalty? If a distributuion is made at least 2 years after the plan was established, is nothing subject to the extra penalty?

(thought I could figure it out this morning with a fresh brain, but it ain't happenin) :unsure:

[LindaB]

If a distributuion is made at least 2 years after the plan was established, is nothing subject to the extra penalty?

I think this is correct. In Pub. 590 under 'When Can You Withdraw or Use Assets?' it keeps talking about the two-year rule, but it is always the 2-year period that begins on the date on which you first participated in the employer's SIMPLE plan.

[jklcpa]

Correct, employee leaves the funds in the SIMPLE IRA for 2 yrs after first beginning to participate, there's no 25% penalty.

If the realloc of plan assets to the money mkt was all within the SIMPLE, that has no effect. The employee just chose an investment that he felt was better for him at the time.

My research didn't find any answers for you except NEVER COMINGLE THE FUNDS. Can your client provide documentation of the rollover from the first employer? In my mind he shouldn't pay any penalty on that portion, but like I said in the wee hrs this a.m. I haven't experienced this myself.