"A plan participant requested a rollover of his $40,000 account balance. Due to a processing error on the TPA side, the distribution was coded as a cash distribution when entered, so federal and state taxes were withheld when the recordkeeper processed the distribution. The net amount was paid directly to the IRA Custodian, and taxes were remitted to the IRS and state.
The distribution was processed in December 2021 and the
participant notified us in March when he received his 1099-R's that something did not seem correct.
We contacted the recordkeeper with fingers crossed that the entire transaction could be reversed, but they said it could not, as it crossed tax years and the taxes had already been remitted to the IRS. And, since it was not their error, they could not "front" the tax funds back to the participants account as it could not
stay on their books.
The original 1099-R was issued showing the $40,000 as a cash distribution with taxes withheld, and since the participant is age 35, the form was coded with a 1, so the 10% early withdrawal penalty also applies.
The participant had not yet filed his taxes, so the recordkeeper reissued the 1099-R as two separate forms: one shows the amount that was deposited in the IRA as a non-taxable distribution, coded as
a rollover; the second shows the amount of the taxes withheld as a taxable distribution coded as a 1.
There has been a lot of discussion now regarding how to make the participant whole, and talk about how this will play out with his taxes regarding whether he gets a full refund of the taxable amount, and what will be due for the penalty. To me, the participant should wind up with the full amount in his IRA that he asked to be
deposited in his IRA.
Does anyone know a way this can be accomplished? Should a 1099-R have been issued to show the full amount of the distribution, zero should have been taxable, show the actual taxes withheld and code as a G so no early penalty? Will this result in the taxes being returned?
The participants broker also feels that since the participant never actually received any funds, the 60 days does not apply for the
participant to change his mind and deposit the tax amount into his IRA. I do not even know if the participant has access to enough cash to be able to deposit the amount withheld for taxes.
I am hoping someone has had this situation and it came to a happy resolution."