Memorandum
Facts:
Fred Hamilton had a traditional IRA account with an investment company for approximately 15 years and the value of the IRA account was $90,000. He meets a new financial advisor who actually not associated with the company for almost one year. So Fred Hamilton withdrew all of the $90,000 and transferred all of the money into a newly established IRA account. And then he wrote a check in the amount of $90,000 to XYZ Investment Company. Fred Hamilton did all of the above as advised and gave the check to the new financial advisor. However, the new financial advisor endorsed the check and deposited the money into her personal account. And Fred did not know Sally Smith had not been associated of XYZ Investment Company for almost one year. Then Fred Hamilton discovered the loss and hired an attorney to represent him on this matter at current taxable year.
Issue:
If the distribution $90,000 as rollover nontaxable and how much the actual distribution can be deductable or not?
Discussion:
1. The trustee must be a bank or another person who can assure that trust will be administered safely according to a certain manner (Reg Sec 408-2(b)(2)(i)). The new financial advisor was no associated with the company for almost one year. She does not have the authority to advise the taxpayer since she is not qualified as a trustee. 2. There are two kind of distribution. One is direct another one is indirect. According to Instructions for Forms 1099-R and 5498, the direct payment of the distribution is from a qualified plan, section 403 (b) plan, or a governmental section 457 (b) plan to a traditional IRA, Roth IRA, or other eligible retirement plan. The indirect rollover is the individual receives a distribution of assets from those plans and traditional or Roth IRA. In this case, it is a indirect rollover. 3. Under Code 408 (d) (1), in general, any amount paid or distributed out of an individual retirement plan should included in gross income by the payee or distribute. But there is one exception, under Code 408 (d) (3) (A) a tax-free distribution to the individual of cash or other assets from one retirement plan to another one if the entire amount received is paid into an individual retirement account for the benefit of such individual not later than 60—day after the day on which he receives the payment or distribution. Under IRC Sec 72 (t), the $90,000 will included in the taxpayer’s gross income and may be subject to the 10% early withdrawal penalty. However, under Code 408 (d) (3) (I) if the event is out of control, it can waiver of 60-day requirement. Theft is belong to casualty, so it is a kind of out of control. So it is not include in gross income. It is nontaxable. Besides, the 10% penalty does not apply to distributions which are made on or after the date on which the employee attains age 59 1/2 under IRC Sec 72 (t) (2) (a) (i). 4. Under Code 165 (a) the general rule allowed as a deduction any loss sustained during the taxable year and not compensated for by insurance or otherwise. And under Code 165 (e) the theft losses, permits any loss caused by theft shall be treated as sustained during the tax year in which the taxpayer discovers such loss. No part of a rollover distribution is included in the income of the distribute (Reg§ 1.529-3(a)(2)). Thus, in this distribution, act of theft was involved. A theft loss is not deductible for the taxable year in which the theft actually occurs unless that is also the year in which the taxpayer discovers the loss (Reg§1.165-8(a)(2)). Since both the theft and it being discovered happens in the third quarter of current taxable year, it meets the allowance of deduction requirement. The theft losses could be treated as deductible for the current taxable year. 5. A taxpayer is deemed to have acted reasonably and in good faith if the taxpayer Failed to make the election because of intervening events beyond the taxpayer's control (Reg§301.9100-3(b)(1)(ii)). In this case, taxpayer’s behavior is reasonably and still has the right to get potential recovery.
Conclusion:
The distribution is nontaxable, and the investment fraud loss of Fred is able to deduct all the amount of $90,000.