Who is the beneficiary for a post-death recharacterization?

[Guest reg_h2b]

Who would be the beneficiary in the following scenario?

Taxpayer A converts his traditional IRA ("TIRA") to a Roth IRA ("RIRA") in 1998. For the TIRA the primary beneficiary was his spouse but for the RIRA the beneficary was a qualified trust [such that the beneficaries of the trust are the designated beneficiaries for 401(a)(9) purposes].

Taxpayer A dies in 1999.

In preparing Taxpayer A's estate the executor finds out that A's 1998 MAGI needs to be adjusted such that it will exceed the 100K limit. The executor recharaterizes the RIRA back to the TIRA by the 12/31/1999 deadline.

Who is the effective beneficary for this IRA?

i)On the one hand, Taxpayer A's last intention before he died with regard to the beneficiary was expressed on his RIRA. Which would leave it to the trust.

ii)On the other hand, 1.408A-5 Q&A-3 says the effect of the recharacterization, in this case, the RIRA "is treated as having been originally contributed to the Second IRA [herein the TIRA] on the same date ... that it was made to the the First IRA [herein the RIRA]". This implies to me that the beneficiary should then be the ben. of the TIRA, the spouse.

Seems to me result (i) makes the most sense. For example, the executor should not have the power to change the beneficiary designation of the decedent. Note in this case

1.408A-5 Q&A-6© gives the power to the executor to make a post-death recharacterization. It does not say it has to be a mandatory recharacterization. If result (ii) was correct the executor could change the intentions of the decedent. What if the executor was the beneficiary of the TIRA? You see where I'm going...

In addition, 1.408A-5 Q&A-1(a) says that if both the RIRA and the TIRA were within the same trustee instead of a tranfer back to the original TIRA, the RIRA can be "redesignated" as a new TIRA; which in this case a redesignation would keep the RIRA's beneficary, the trust. One would think that the effective beneficary would not rest on the way the trustee chooses to processes the recharacterization.

Does anyone have a citation that would apply, other than the previously quoted 408A-5 regs in this scenario? I think that result (i) should be right; but I have no legal basis for it.

One could go on and complicate things by asking about a fractional recharacterization and about whose lifetime would be considered for MRD purposes in the recharacterized IRA but I think I'll stop here for now...

[BPickerCPA]

I think you may have to get guidance from the local probate court. The tax implications will follow based upon who is permitted to be the bene.

[Guest reg_h2b]

Thanks Barry,

I agree Probate Court may be needed for a post-death rechar.

However, you would think that the Probate Court would base its judgement, in part, upon the intended effect of a recharacterization. Since that is solely a IRS code/regs matter we're left back at square one.

To the extent that this effects the designated beneficary the Service should have some uniform regs on this issue. Looking over the regs. this looks to be an unintented consequence of a post-death recharacterization.

To this end, I'm going to contact the Service directly to discuss this situation. I'll update the board with any developments.

[Guest reg_h2b]

Just talked to someone at the IRS who is very familiar with Roth IRA's regulations and Roth IRA's in general. Here in a nutshell is what they said on the above issues:

1. It was not the intention of the Roth Recharacterization Reg's to allow the executor to change the bene on the IRA. But if the executor makes a post-death recharac. back to a a pre-existing traditional IRA (w/ a different bene) and the custodial agreement reads that is the effective bene the IRS will recognize the custodial agreement and thus the different bene. (This assumes that the custodial agreement has something relevant to say on this subject which may or may not be true).

However, if both IRA's are with the same custodian and the custodian merely redesignates the Roth to be a traditional IRA then the effective bene should be the Roth bene.

Bottom line: the Service has not really thought through this contingency. It's still a grey area.

2. Could an inherited Roth IRA be recharacterized? Apparently not! This IRS person said that given the language in the Reg Q&A on post-death recharacterizations the bene is not listed as someone who could recharac. the inherited Roth.

As obscure as (2) sounds I have a case where the Roth IRA came very close to being inherited by the bene. We satisfied the MRD's for the IRA by taking them out of another inherited IRA (following IRS Notice 88-38). The Roth recharac. is still locked up in a ruling request on another issue. (Any bene who does not need to change ownership status of the decedent's IRA should wait until they are as sure as possible that the decedent qualified for the Roth conversion/contribution before they inherit the IRA). In our case it still is the decedent's Roth IRA (thankfully).

3. Speaking of the ruling requests on the 1998 recharac, it seems as though no PLR's have been publically released yet on this subject. Has anyone heard anything else??

[BPickerCPA]

The last I heard on the 1998 recharacterizations is the middle of January. This keeps getting pushed back. I have a few requests outstanding so when I hear I will post the results. They should be favorable, or so I've been told.

[Guest reg_h2b]

I appreciate that Barry- I'd be interested in the facts and circumstance in your request when you post.

I'll post our request results when I get them also.

[John G]

I am going to take a wild guess on this question and suggest that a court might rule that since the Roth IRA was never valid (although this invalidation was discovered late) then the bene designation of the Roth can never be valid and all the funds go back to a prior legal state which was the IRA. This is especially likely to be true if the IRA continued after the Roth creation and the bene designation was never changed in this older account.

Just a guess on my part. In other, non-related cases, I have never seen the court system hold as valid something that was never legal at any point in time.