Roth IRA - late conversion -Jan instead of Dec - broker error

[Guest Beverly Grossman]

I requested my broker to convert $4000 from my traditional IRA to a Roth on 12/20. They did not do this until 1/16/01. They sent me an apology letter, indicating I should consult my tax advisor about a possible exception. Is there any way I can have these funds considered converted in 2000?

[John G]

If you qualify in 2001 for a conversion then just accept the action and record it on your 2001 return next year as it would appear that little damage has been done. If you can not qualify this year for the conversion, then you need to get your custodian to "undo" the conversion and re-establish the original IRA which can be accomplished by letter of instructions. Don't deal with the general counter help on this matter, work directly with the IRA specialists.

Your question reveals two great lessons for others: (1) don't wait till the end of the year to request an action and (2) follow up your requests to make sure they are done correctly and timely. Unfortunately, this kind of mistake is made very often by custodians.

I have no info on "exceptions", perhaps others can comment.

[Guest P A Weick]

There is a case Wood v Commissioner where the Tax Court allowed a broker's error to be disregarded for tax purposes. The IRS has indicated it does not agree with this position (although that may be changing). You should talk to your tax advisor about it. And, as John G indicates, the damage on $4000 is not too great. Also, does it matter in your planning that President Bush's proposed tax cut may be retroactive to 1/1/2001? Or is that too uncertain for you?

[Guest reg_h2b]

"I have no info on "exceptions", perhaps others can comment.".....

Beverely, if by "exceptions" you mean filing with the IRS for an extension of the 2000 conversion deadline, in discussions with the IRS I have been told:

1. That the service has received many of these requests.

2. They have not granted deadline extensions for the conversion deadline (at least for cases due to custodian error).

This is in contrast to the deadline extension for a Roth recharacterization. For these cases, the Service seems to be giving extensions on a relatively liberal basis. (But you still need to file w/ the service for a recharacterization extension).

[John G]

I think this original question poses an interesting question of custodian liability for failure to act upon instructions. I have never seen anything that sets a standard on reasonable time to act. Custodians can always argue IRAs have a work que that sets processing time (especially in December and April) but I would suggest that 5 working days should be sufficient. Some custodians seem to have clever ways to backdate blown transactions, it is not clear to me where the legal line should be drawn but some firms seem to be able to solve these problems by waving a supervisors magic wand.

Months ago we had a couple of really disasterous cases of custodial malfeasance involving Roth conversions. Clearly there is an opportunity for legal damages when the customer gives instructions in writing with adequate time and the custodian fails to perform. Calulating potential damages raises lots of interesting theoretical questions, but that aside, you would think that custodians would pay more attention to requests and deadlines.

[Guest AFRICA6796]

Well said John G.

Custodians have pre-established time-frames within which they process requests. I had a similar situation and my custodian was able to backdate the transaction and report it for 2000. It is really an operational decision. Usually if they received the request and due to their own internal negligence or due to excessive workload was not able to process the reuest within their stated processing timeframe, they usually make good for the customer. if you scream loud enough, they will fix it- they can fix it. Custodians have until February 28 to report 2000 tranasctons to the IRS- this means they have sufficinet time within which to make the correction. Lets forget the dollar value of the transaction- we are talking principles and customer service now

[Appleby]

There is a case Wood v Commissioner where the Tax Court allowed a broker's error to be disregarded for tax purposes. The IRS has indicated it does not agree with this position (although that may be changing). You should talk to your tax advisor about it. And, as John G indicates, the damage on 00 is not too great. Also, does it matter in your planning that President Bush's proposed tax cut may be retroactive to 1/1/2001? Or is that too uncertain for you?

P A Weick,

I am doing some research … can you tell me where the “IRS has indicated it does not agree with this position “?

Thanks

[Mary Kay Foss]

I'm not sure if this is the answer you're looking for, but after the 1989 Wood decision the IRS continued to litigate. The Tax Court followed Wood in two 1996 cases (Childs TC Memo 1996-267; and Thompson TC Memo 1996-266). In 1999 IRS issued a private ruling saying that an error made by a financial institution caused a $200,000 IRA to be taxable. Check LTR 199901029.

[Appleby]

Great help Mary Kay

Thanks

[Guest P A Weick]

Also, PLR 9847031 for the proposition that anyone's mistake with an IRA is to the IRS's advantage. However, there was a field service advisory (199933038) where the IRS attorney seemed to not wholly reject the Wood position. In addition to the cases Ms. Foss cited, there are also several other cases since Wood where the taxpayer raised the argument of "bookkeeping error" sometimes with success, sometimes without. See Schoof v Commissioner, 110 TC 1 (1998); Orgera v. Commissioner, TC Memo 1995-575; Moon v United States, 97-2 US Tax Cas (CCH) paragraph 50,668; Vega v Commissioner, TC Summary Opinion 2002-14; Rodoni v Commissioner, 105 TC 29; Ancira v. Commissioner, 119 TC 6.

I would hope that a higher federal court may one day bring some clarity to this issue

Good luck with your issue.

[Appleby]

Thanks Weick

[John G]

If any general readers managed to read through all these response and got to this message, let me suggest that there are two lessons for the average citizen:

1. You run a higher risk of inproper execution of a IRA custodian transaction when you wait to the deadline (such as April 15 or Dec 31) in part because of the rush, congestion and less informed staff processing materials.

2. You must confirm requested transactions are completed by checking your statements. {when you wait to the deadline - you will not see a statement until the deadline has past}

Although this post is about custodian mistakes, I will suggest that another comon lesson from I have extracted from the large number of problem questions that are posted here is:

Get professional advice from a tax preparer or accountant to confirm your interpretation of the rules and how they apply to your circumstances. Spend the money up front as mistakes are annoying, time wasting and potentially very expensive.

Pass all the problems we have seen in the past few years through these three guidelines and I think more than half of all the issues disappear.