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Financial Security by Design
925.299.0472 or Fax 925.299.0473
e-mail: lingane@post.harvard.edu

Roth Regulations, Rulings and Related Issues.  Updated 5/21/99

• The IRS has issued final Roth Regulations.

  The examples in these regulations are required reading for anyone considering a Roth conversion.

  The Service has also prohibited more than one conversion a year, effective November 1st. 

  Unfortunately, the IRS was not convinced by comments that I and Timothy Inglis and others provided.   Consequently,  Part 4 of the regulations work a hardship on those taxpayers who have achieved age 70 1/2.  Taxpayers are required to take the required distribution in the same year that he/she converts to a Roth IRA.   Since required distributions increase the modified AGI, the proposed ordering rules might push a taxpayer above the $100,000 conversion ceiling.

• California allows recharacterization of Roth IRAs

  California has conformed to the 1997 and 1998 federal legislation. However, the path to full conformity was a rocky one.  Then Governor Wilson vetoed 1998 legislation that would have conformed California law to many of the provisions of the federal IRS Restructuring Bill, including the right to reverse a Roth conversion, because of unrelated issues. Click here for the Governor's veto message.

  Fast track legislation was chaptered in April 1999 to conform California and federal law retroactively. Fortunately, creative thinkers at the Franchise Tax Board had discovered administrative authority in the interim for allowing California taxpayers to recharacterize a Roth conversion. Legal Ruling 98-4 was issued October 26 stating this.

  FTB Legal Ruling 98-3 discusses the taxation of Roth conversions when someone moves into or out of California during 1998 -2001, the years during which tax payments are being made.

• Comments on Prop. Reg. 1.408A-4.

  16 November 1998

  CC:DOM:CORP:R (REG-115393-98)
  Room 5226
  Internal Revenue Service
  POB 7604, Ben Franklin Station
  Washington, DC 20044

   Comments on Proposed Regulation 1.408A-4

  §408A(a) requires a Roth IRA to be treated in the same manner as a traditional IRA.   Therefore, the regulations governing rollovers to traditional and Roth IRAs must be the same except where differences are required by statute.

  Rollovers to traditional IRAs are governed by Prop. Reg. 1.401(a)(9)-1.  Answers G-1.A(a) and G-1.A(b) state that a required distribution must be taken before a subsequent distribution can be rolled over to another traditional IRA.  This is the ordering rule proposed in Prop. Reg. 1.408A-4.

  There is a difficulty with this ordering rule.  §408(d)(3)(E) denies rollover treatment only if the rolled over amount "is required to be distributed."   Since §401(a)(9)(C)(i)(I) states that minimum distributions do not need to be distributed before April 1 of the calendar year following age 70½, this ordering rule exceeds the requirements of §408(d)(3)(E).

  Recognizing this difficulty, the Service wisely crafted Answer G-3.A(a) to allow for rollovers in the age 70½ calendar year and for required distributions by April 1 of the following calendar year so long as the rollover is effected through a trustee-to-trustee transfer.

  If the taxpayer wishes to choose the tax year in which to receive the initial distribution, the taxpayer has only to ensure that the rollover to a traditional IRA is effected by a trustee-to-trustee transfer.

  Prop. Reg. 1.408A-4 Q-1.A(c) proposes to eliminate the distinction between the type of rollover for Roth IRAs only.

  "Any converted amount is treated as a distribution from the traditional IRA and a qualified rollover contribution to a Roth IRA for purposes of section 408 and 408A, even if the conversion is accomplished by means of a trustee-to-trustee transfer or a transfer between IRAs of the same trustee."

  This proposed provision eliminates the opportunity to distinguish between a distribution/rollover and a rollover effected by a trustee-to-trustee transfer, for rollovers to Roth IRAs only.  This proposed provision thus violates §408A(a).

  Prop. Reg. 1.408A-4 also violates §401(a)(9)(C)(i)(I) by denying certain taxpayers the option of choosing the tax year in which to receive the initial required distribution.

  Prop. Reg. 1.408A-4 is inequitable.  Eliminating the opportunity to choose the tax year in which to receive the initial required distribution has the effect of denying certain taxpayers the opportunity to ever convert to a Roth IRA.

  Ordering Rules may not be the best way to achieve §408(d)(3)(E).  The review of Prop. Reg. 1.408A-4 provides an opportunity to consider other approaches.

  For example, if a rollover contribution to a traditional or Roth IRA were defined as the sum of all distributions for the tax year, including distributions taken by April 1 of the calendar year following the year in which the taxpayer attains age 70½, less the required minimum distribution for the tax year, the requirement of §408(d)(3)(E) would be satisfied.

  Such a definition could be enforced by requiring a Form 1099 for distributions both to taxpayers and to another trustee a second Form 1099 for rollover contributions whether received from the taxpayer or from another trustee.  These reporting requirements might be less onerous than enforcing an ordering rule.

  I urge that Prop. Reg. 1.408A-4 Q-1.A(c) be eliminated from the proposed regulation.   This would have the effect that the ordering rules that currently apply to rollovers to traditional IRAs would also apply to Roth IRAs.

  Prop. Reg. 1.408A-4 Q-6 would be answered differently.  Taxpayers who wanted to choose the tax year in which to receive their initial required distribution could do so by performing the Roth conversion via a trustee-to-trustee transfer.

  I also suggest that alternatives to the ordering rules of Prop. Reg. 1.401(a)(9)-1 be considered for pensions and for traditional and Roth IRAs.

  Since this issue affects my customers, I would appreciate the Service’s reaction to these issues via letter, telephone or e-mail if a public statement is not issued after the December hearings.

  Sincerely,

  Peter James Lingane, EA