The IRS recently published new guidance on the tax withholding and reporting consequences associated with qualified retirement plan distributions to state unclaimed property funds. In Revenue Ruling 2020-24, the IRS clarified that distributions from qualified retirement plans to state unclaimed property funds are subject to both federal income tax withholding and 1099-R reporting requirements. In a companion revenue procedure, Rev. Proc. 2020-46, the IRS permitted taxpayers to self-certify for a waiver of the 60-day deadline for rolling over funds between qualified plans when the funds had been distributed to a state unclaimed property fund.
Revenue Ruling 2020-24
Rev. Rul. 2020-24 addresses an employer-sponsored qualified retirement plan which distributed a participant’s $900 accrued benefit to a state unclaimed property fund. (See earlier Inside Compensation articles discussing benefits of missing participants.) The IRS ruled that section 3405 requires the employer, who is the plan administrator under the facts of the ruling, to withhold federal income tax on the distribution. Moreover, the plan administrator is required to report the distribution on Form 1099-R under section 6047. The IRS’s analysis in the ruling is consistent with the approach the IRS took in Rev. Rul. 2018-17, which ruled that the escheatment of amounts from an IRA or qualified annuity to a state unclaimed property fund was subject to withholding under section 3405 and Form 1099-R reporting. That ruling took effect this year.
In general, distributions from qualified plans are subject to withholding under section 3405. The amount required to be withheld differs depending upon whether the distribution is a periodic or nonperiodic distribution, and whether the distribution is an eligible rollover distribution. On the question of income tax withholding, the IRS considered the exemptions from withholding under section 3405 and determined that none of those exemptions applied. In particular, the IRS concluded that, under the facts of the ruling, it would not be reasonable for the employer to conclude that the distribution to a state unclaimed property fund was not includible in the participant’s gross income. Thus, the employer was required to withhold income tax from the deferred compensation distribution to the unclaimed property fund.
Additionally, because the distribution exceeded $10, the IRS ruled that Section 6047(d) and the 2020 instructions to Form 1099-R require the plan administrator to report to the IRS and the participant the total distribution as income to the participant and the amount of federal income tax withheld on Form 1099-R.
The IRS provided transitional relief, giving qualified retirement plans until the earlier of January 1, 2022, or the date it becomes reasonably practicable to comport their withholding and reporting procedures with the requirements of this ruling. Plan administrators who make distributions from qualified plans to state unclaimed property funds should review their procedures to ensure that income taxes are withheld and distributions are properly reported under this new guidance. Plan administrators should not wait for 2022 to implement the guidance. To avoid potential penalties, steps should be taken to implement the required withholding and reporting as soon as practicable.
Rev. Proc. 2020-46
To avoid income inclusion from an indirect rollover from a qualified plan or IRA (i.e., a distributed to a participant which the participant deposits into an IRA), taxpayers generally must complete the rollover within 60 days after the distribution. However, the Treasury Secretary may waive this requirement when failure to do so would be “against equity or good conscience.” Prior to 2016, a taxpayer generally requested a private letter ruling to waive the 60-day requirement. In Rev. Proc. 2016-47, the IRS developed a new procedure permitting taxpayers to self-certify to the recipient plan or IRA that the requirements for a waiver of the 60-day rollover deadline were satisfied. The self-certification procedure is available only under certain circumstances, such as an error by the financial institution, severe damage to the taxpayer’s personal residence, postal error, or the death of a family member, among others. The self-certifying taxpayer is required to complete the rollover as soon as is practicable after the reason preventing completion of the rollover is resolved.
Rev. Proc. 2020-46 adds “the distribution was made to a state unclaimed property fund” to the list of permissible reasons taxpayers may cite in support of a waiver of the 60-day deadline. Plan administrators and IRA trustees may rely on the taxpayer’s self-certification in accepting the rollover, so long as they do not have actual knowledge contrary to the self-certification. The taxpayer should retain a copy of the self-certification, which is subject to verification by the IRS during a later examination. It should be noted that the distribution must still be otherwise eligible for rollover treatment; the waiver only applies to the 60-day deadline. The revenue procedure also provides model language to be used for waiver self-certification.