Jump to content

Is an IRA’s sale to a not-yet spouse a prohibited transaction?


Peter Gulia
 Share

Recommended Posts

Is an IRA’s sale to a not-yet spouse a prohibited transaction?

Imagine this not-so-hypothetical situation:

Two people who have contemplated marriage decide to wait. Why? One’s IRA owns real property, which the couple intend as their new residence. The IRA holder believes that living in the property while the IRA owns it would result in an improper personal benefit and prohibited transaction. Instead, the IRA sells the property to the holder’s not-yet spouse. (Assume the IRA’s sale is for an amount an appraiser says is fair market value.) The couple delay their marriage, and the IRA holder’s move, until the year after the year in which the IRA sold the property.

BenefitsLink neighbors, have you seen any court decision or agency proceeding that analyzes a situation anything like this as a too-clever evasion or somehow a prohibited transaction?

What tax-law doctrines might the IRS (or a taxpayer) use to reason that the IRA’s sale to a not-yet spouse ought to be treated as if it were a sale to the IRA holder’s spouse?

Peter Gulia PC

Fiduciary Guidance Counsel

Philadelphia, Pennsylvania

215-732-1552

Peter@FiduciaryGuidanceCounsel.com

Link to comment
Share on other sites

I'm not a lawyer nor an accountant, but here is my layman's take. Paraphrasing the facts as I understand them: an IRA purchased a home/real estate as an investment, the IRA owner did not use such property (either rented or maybe planned to flip), but the now engaged IRA owner plans to live in the property at some future point (after marriage) and so the IRA needs to divest/sell this property. 

The contemplated buyer is not currently related to the IRA owner, so I see no issue with the transaction provided any other rules for such are satisfied. If this was a friend, a cousin, a stranger, would there be any issue? I don't think so. An engagement for marriage is not a legal status as far as I know - it does not guarantee that a marriage actually occurs, and some engagements last years while others dissolve. What if he/she was just a boy/girlfriend, they did the transaction and then decided to live together without getting married.

Something of this magnitude should be steered to a qualified tax attorney, but this was my not legal opinion.

Kenneth M. Prell, CEBS, ERPA

Vice President, BPAS Actuarial & Pension Services

kprell@bpas.com

Link to comment
Share on other sites

CuseFan, thank you (!) for giving me your thinking.

I recognize I alone am responsible for whatever advice I might provide. I’ll do my own research and analysis. I asked BenefitsLink neighbors because sometimes it gives me a nice start before I search in Bloomberg Law, CCH/Wolters Kluwer, LexisNexis, and ThomsonReuters’ Westlaw.

The statute defines a prohibited transaction as one that is “direct or indirect[.]”

Internal Revenue Code of 1986 § 4975(c)(1) (emphasis added) http://uscode.house.gov/view.xhtml?req=(title:26%20section:4975%20edition:prelim)%20OR%20(granuleid:USC-prelim-title26-section4975)&f=treesort&edition=prelim&num=0&jumpTo=true

Has anyone seen an IRS argument that a transaction with someone who was not yet (but soon became) a disqualified person was doing indirectly that which must not be done directly?

Peter Gulia PC

Fiduciary Guidance Counsel

Philadelphia, Pennsylvania

215-732-1552

Peter@FiduciaryGuidanceCounsel.com

Link to comment
Share on other sites

I personally would recommend erring on the side of caution, partially for the reason you point out, Peter.

Even if you don't have a prohibited sale of property under 4975(c)(1)(A) or transfer under (c)(1)(D), which you might at least indirectly, I think arguably you run into a problem under (c)(1)(E) prohibiting a fiduciary from dealing with plan assets directly or indirectly in his own interest. 

The DOL's interpretation is fairly broad:

"Whether the proposed transaction would violate sections 4975(c)(1)(D) and (E) of the Code raises questions of a factual nature upon which the Department will not issue an opinion. A violation of section 4975(c)(1)(D) and (E) would occur if the transaction was part of an agreement, arrangement or understanding in which the fiduciary caused plan assets to be used in a manner designed to benefit such fiduciary (or any person which such fiduciary had an interest which would affect the exercise of his best judgment as a fiduciary).... [T]he Department further notes that if an IRA fiduciary causes the IRA to enter into a transaction where, by the terms or nature of that transaction, a conflict of interest between the IRA and the fiduciary (or persons in which the fiduciary has an interest) exists or will arise in the future, that transaction would violate either 4975(c)(1)(D) or (E) of the Code."

I guess you could argue the transaction is not intended to "benefit" the soon-to-be spouse as fair value would be paid. And that there is no conflict of interest, but it seems to me that argument would be more difficult when the IRA owner and fiance(e) (a person in whom the IRA owner clearly has "an interest") are on opposite sides of a real estate transaction. 

The excerpt is from DOL Adv. Op. 2000-10A, which, interestingly, involved an IRA owner attempting to meet the minimum investment threshold to invest with one Bernard L. Madoff Investment Securities. ("You further represent that Mr. Adler believes that Madoff would effectively manage assets for the IRA....") 

Link to comment
Share on other sites

EBECatty, thank you (!!) for this nice find.

It no longer is possible for the transaction’s parties to err on the side of caution; the transaction was done years ago.

Even if there was no § 4975(c)(1)(A) or § 4975(c)(1)(D) transaction, it seems there might have been a § 4975(c)(1)(E) transaction.

The IRA holder, who was the directing fiduciary of his IRA, had at least two self-dealing interests other than the IRA’s interest: (1) the fiduciary’s personal interest in benefitting his intended spouse; and (2) the fiduciary’s personal interest in providing his residence.

Further, under many States’ laws, a couple engaged to marry might have a confidential (fiduciary) relation, each one to the other.

And even if a relevant State’s law recognizes no such relation, mutual promises to marry might set up an interest that could affect one’s exercise of one’s best judgment as an IRA’s fiduciary.

Peter Gulia PC

Fiduciary Guidance Counsel

Philadelphia, Pennsylvania

215-732-1552

Peter@FiduciaryGuidanceCounsel.com

Link to comment
Share on other sites

I used to work for a custodian that dealt primarily with Self-Directed IRA, so I take a more aggressive approach to this. Looking at various Opinion Letters, the DOL seems to point to 3 elements in determining a PT, is there a Plan, is there a disqualified person, and is there a transaction. If you don't have all three, then to me, there is no PT. In this case, I think you have 2 of the 3 elements (the IRA and the Transaction) but you don't have a disqualified person. I had a situation where a client had lent money (via Mortgage) to her son's then girlfriend (say her name was Jill). Jill kept making regular payments on it but then her son and Jill got married. It was determined that the PT did not occur until a payment (i.e. transaction) was made by Jill as the client's daughter-in-law. So all the payments prior to Jill being the client's girlfriend was fine because she was not a disqualified person, only after Jill was married was she considered a disqualified person and the PT then occurred and was reported in the year in which we received the first payment from Jill as the daughter-in-law.

From my perspective, until the IRA is married, any transaction with the soon to be spouse (as long as it is not self-dealing) would not be a PT.

Link to comment
Share on other sites

JOH, thank you (!) for your gift to this discussion.

Even if a judge finds a not-yet spouse is not a spouse (and so not a disqualified person), wasn’t the IRA holder, who had powers to direct the IRA’s investments and the sale, the IRA’s fiduciary, and so a disqualified person?

If so, that leaves mixed factual and legal findings about whether the IRA holder as the IRA’s fiduciary acted for an interest other than maximizing the IRA’s investment value.

Peter Gulia PC

Fiduciary Guidance Counsel

Philadelphia, Pennsylvania

215-732-1552

Peter@FiduciaryGuidanceCounsel.com

Link to comment
Share on other sites

Hey Peter-

Completely agree with your view but in the example you provided, IRA holder sold the asset for FMV. There was no self dealing in which the soon to spouse received special benefits from the purchase of the property. To me it would be no different if the client took an in-kind distribution of the property and reassigned the property into his own name at FMV. Now, say that the soon to be spouse obtained the funds from a loan that was in her and the client's name, that's a different story and I would view that as a PT but if the soon to be spouse obtained the funds by her merits only and purchased the asset at FMV, there is no PT because there is no disqualified party involved in the transaction and no self-dealing. 

DOL Opinion Letter 88-018A allowed allowed the IRA owner to issue promissory notes to a company that the IRA owner was 48% owner in. The DOL did caution the self-dealing aspect b/c of the IRA owners large ownership in the company that was receiving the loan but allowed the transaction to the LLC despite the fact the IRA owner was 48% owner of the LLC. Greenlee v Commissioner, T.C. Memo 1996-378 also discusses the disqualified party matter (Greenlee was 18% owner and an independent advisor was used to determine the terms of the loan). 

Based on these these and other cases, it seems like the DOL is pretty firm in its application of a disqualified person and a soon to be spouse would not be a disqualified person. But what might make this a PT would be if there is any self-dealing for the client (e.g. did he or is he part of the funding used to purchase the property, is he giving her a deal) but if self-dealing is not present, than I don't see PT in this case.

Link to comment
Share on other sites

Create an account or sign in to comment

You need to be a member in order to leave a comment

Create an account

Sign up for a new account in our community. It's easy!

Register a new account

Sign in

Already have an account? Sign in here.

Sign In Now
 Share

×
×
  • Create New...