So Now What?

[tuni88]

We have a former vested employee from years ago who retired this fall and, after much himming and hawing, ended up taking the lump sum option (about $20,000). He couldn't make up his mind about a direct rollover and ended up sending us no paperwork for a rollover election. So we told him we'd have to take the default action of paying him 80% of the total and sending 20% on to Uncle Sam.

Trouble is, we didn't instruct the bank trustee properly and they sent him 100%. Weeks later, long after he had cashed the check, we discovered the situation. I contacted him and asked him to send 20% back so that we could cut a fresh check for withholding. He says he's decided to just let it stand and pay whatever tax is due next April 15. I didn't ask if he's rolling it over himself or just keeping the money.

So now what? I'm inclined to let it stand too because I can't see any other alternative if he won't send the money back.

[Bird]

Yes, let it go. As you note, there's not much you can do about it now. I've never seen any direct penalty for failing to withhold - I think the participant could, if he wanted to to, bring an action against the trustee for failing to withhold, but then the trustee would be able to say "fine, please return the excess funds so we can pay the withholding."

[jpod]

Just make sure the 1099R shows $0 withholding.

[Andy the Actuary]

Before sweeping under the matress, you may wish to find out who is at risk for penalty (e.g., plan administrator) and how much. A 1099-R with a cash distribution that does not show withholding may be a flag. Also, the recipient could be in the position to incur penalties for underpaying quarterly taxes. This is not to say that we have a landmark case here; rather, just apprise yourself of where those airborne pooping ducks are flying.

[jpod]

Andy, once apprised of the potential penalties and liabilities, what then could be done other than sit and wait and keep your fingers crossed? The only way to avoid penalties and liabilities is to cough up the late withholding dollars, and then try to collect it from the participant. Is that the slightest bit realistic?

[Andy the Actuary]

The suggestion was meant as no more than relating to the client the potential exposure and consequences. It is the client's decision whether or not to undertake any corrective action. It is not advised that a service provider make the decision to ignore the problem. I would suspect if you're delegating blame, hand some over to the Bank Trustee who failed to apply the rules.

[Guest Sieve]

I suspect that the IRS will not make a stink unless the distributee does not pay the appropriate income taxes when due. The IRC penalty provisions require "willful" failure to collect the tax in order for a penalty to apply (see IRC Section 6672(a)). I admit, however, that I'm not sure what willful means here--it may mean any failure, for all I know. But, be careful of IRC Section 7202 (5 years in jail)!!

My personal bottom line: as suggested by Andy t.a., better look into it carefully before deciding to punt. Messing with mother nature (aka, the IRS) re: mandatory withholding is not a fight to lightly pick. Besides, it's the plan administrator's liability if the appropriate notice hasn't been given to the bank as provided in IRC Section 3405(d)(2)(A). (3 cheers for the bank lobby, ehh?)