Do you have clients who are do-it-yourselfers? While consulting YouTube for tips on a minor home improvement project may work out just fine, DIY can create serious problems when it comes to moving retirement funds.
The tax laws are particularly complicated and unforgiving. Some mistakes, usually the biggest ones, cannot be undone. Advisers can help clients avoid these tax disasters and provide real tangible value, before the damage is done.
We hear from taxpayers and advisers all the time, but usually when it is too late. When it gets to us, it usually means the client tried this by themselves and the mistake has already been made. Now the person is desperately searching for a do-over. Take this case we heard from an adviser.
$2 million decimal point error
An IRA owner went went online to do a $20,000 Roth conversion, but entered $2 million instead. He missed the decimal point. Unfortunately, his IRA contained more than $2 million, so the $2 million was converted, per his input request.
The Tax Cuts and Jobs Act eliminated the recharacterization of Roth conversions, so there is no going back on this.
If this person had worked with an adviser, and it was the financial institution or the adviser who made this error, it might have been correctable since the $20,000 conversion order was not properly followed.
But since he did this himself, there is no one to blame and no relief available. He could possibly go to IRS for a private ruling or hearing on this and they might privately (but not publicly) let this obvious egregious error be reversed, just in good conscience, which IRS has been known to do.
But even so, there is no guarantee, and it would be expensive and time-consuming. It seems clear in this case that the IRA owner was not trying to recharacterize for tax purposes but made a horrific error. Advisers should not let clients do Roth conversions on their own, especially now that they cannot be undone and the tax will be owed.
Checked the wrong box on rollover
Carol Mulhern was employed at the Coatesville Veterans Affairs Medical Center in southeastern Pennsylvania, where she enrolled in a thrift savings plan, or TSP. In attempting a direct tax-free rollover to an IRA, she failed to seek competent advice, botched her withdrawal/transfer form and suffered through a losing court case.
When Ms. Mulhern tried to fill out her company plan rollover form herself, she hit the wrong box. Instead of electing a direct rollover, she mistakenly requested a full distribution and 20% was withheld for taxes.
The Coatesville VA Medical Center TSP sent Ms. Mulhern a check in the amount of $127,381.
Ms. Mulhern ultimately realized her mistake and sent multiple letters to the TSP requesting the original check be voided. Her requests were denied.
She sought to fight this in Tax Court and lost. The court dismissed all counts, stating that the TSP had followed her instructions for a "withdrawal request" and that she had left the "transfer election" box blank.
The court stated that the "TSP cannot change the withdrawal request once the funds have been disbursed. See 5 U.S.C. § 8433(d)(2); 5 C.F.R. § 1650.71(b) ('A withdrawal election cannot be changed or cancelled after the withdrawal request has been processed.')" (Carol Mulhern v. Federal Retirement Thrift Investment Board et al.; No. 2:17-cv-00094, March 18, 2019)
To make matters worse, it appears Ms. Mulhern compounded her error by again failing to seek competent retirement advice after the check for $127,381 was issued. She was not without recourse. She could have deposited the amount she received into her IRA within 60 days of the date she received the check. She could have even rolled over the "missing" 20% by using other funds to make up the difference. By following these steps, the amount rolled over would be exempt from gross income for the taxable year and the 20% withheld would have been a tax credit.
It is imperative to know which clients intend to move retirement dollars and offer them proactive guidance. Had either of these two people worked with a professional adviser, instead of taking a DIY approach, there's a good chance these errors and the resulting tax disasters could have been avoided.