Mandatory Federal Withholding

[Dougsbpc]

Suppose a plan has all non-liquid assets. If a participant selects a lump sum distribution and receives it in the form of non-liquidate investments, is the plan required to withhold 20% federal on the distribution?

Thank you.

 

[Bri]

I believe that's a yes.

[C. B. Zeller]

I agree with Bri. There is no waiver of the mandatory withholding just because it's an in-kind distribution. If it's an eligible rollover distribution then mandatory withholding applies. They might need to sell some assets in order to pay the withholding.

[BG5150]

55 minutes ago, C. B. Zeller said:

I agree with Bri. There is no waiver of the mandatory withholding just because it's an in-kind distribution. If it's an eligible rollover distribution then mandatory withholding applies. They might need to sell some assets in order to pay the withholding.

What if the asset is a painting.  It's valued at $10,000.  It's the only thing I was invested in.  I cannot sell 20% of a painting.

[C. B. Zeller]

Just now, BG5150 said:

What if the asset is a painting.  It's valued at $10,000.  It's the only thing I was invested in.  I cannot sell 20% of a painting.

Too bad. Should have diversified.

[EBECatty]

This is from 35.3405-1T, Q&A F2:

f-2. Q. How is withholding accomplished if a payee receives only property other than employer securities?

A. A payor or plan administrator must satisfy the obligation to withhold on distributions of property other than employer securities even if this requires selling all or part of the property and distributing the cash remaining after Federal income tax is withheld. However, the payor or plan administrator may instead permit the payee to remit to the payor or plan administrator sufficient cash to satisfy the withholding obligation. Additionally, if a distribution of property other than cash includes property that is not includible in a designated distribution, such as the distribution of U.S. Savings Bonds or an annuity contract, such property need not be sold or redeemed to meet any withholding obligation.

[Bri]

(Send the IRS just one of the five dogs at the poker table.)

[Peter Gulia]

And if any property (other than money) is not sold, a plan’s administrator, trustee, and payer might consider what procedures they use (or each uses) to estimate the fair market value of that property.

[bito'money]

There's also an exclusion from having to sell employer securities under 31.3405(c)-1 to satisfy 20% withholding...

Q-11: Are there special rules for applying the 20-percent withholding requirement to employer securities and a plan loan offset amount distributed in an eligible rollover distribution?

A-11: Yes. The maximum amount to be withheld on any designated distribution (including any eligible rollover distribution) under section 3405(c) must not exceed the sum of the cash and the fair market value of property (excluding employer securities) received in the distribution. The amount of the sum is determined without regard to whether any portion of the cash or property is a designated distribution or an eligible rollover distribution. For purposes of this rule, any plan loan offset amount, as defined in § 1.402(c)-2, Q&A-9 of this chapter, is treated in the same manner as employer securities. Thus, although employer securities and plan loan offset amounts must be included in the amount that is multiplied by 20-percent, the total amount required to be withheld for an eligible rollover distribution is limited to the sum of the cash and the fair market value of property received by the distributee, excluding any amount of the distribution that is a plan loan offset amount or that is distributed in the form of employer securities. For example, if the only portion of an eligible rollover distribution that is not paid in a direct rollover consists of employer securities or a plan loan offset amount, withholding is not required. In addition, if a distribution consists solely of employer securities and cash (not in excess of $200) in lieu of fractional shares, no amount is required to be withheld as income tax from the distribution under section 3405 (including section 3405(c) and this section). For purposes of section 3405 and this section, employer securities means securities of the employer corporation within the meaning of section 402(e)(4)(E)(ii).

[Suellen Howard]

If the acocunt owner does not wish to sell the painting, then he/she would need to find an IRA trustee that will accept the painting and do a direct rollover to the IRA.  I agree with the others that withholding applies otherwise.

[Peter Gulia]

The temporary rule, in the same Q&A EBECatty cited, includes this:

However, the payor or plan administrator may instead permit the payee [the distributee] to remit to the payor or plan administrator sufficient cash to satisfy the withholding obligation.

https://www.ecfr.gov/current/title-26/chapter-I/subchapter-C/part-35/section-35.3405-1T

[EBECatty]

1 hour ago, Suellen Howard said:

If the acocunt owner does not wish to sell the painting, then he/she would need to find an IRA trustee that will accept the painting and do a direct rollover to the IRA.  I agree with the others that withholding applies otherwise.

I know the original post didn't specifically mention a painting, but IRAs generally cannot own collectibles or artwork. But for other non-prohibited investments, this is probably their best bet if the investment's value will warrant a trustee who may, depending on the investment, charge pretty steep fees.

If the value of the investment is fairly small, as Peter mentions, you can also have the distributing participant write a check for any required withholding.