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May 15, 2014

The Rollicking Renegade of Retirement Rollovers

It’s one thing to break the law. It’s quite another to do it under IRS guidance. In a recent WSJ article by ace Laura Sanders, we find out all the details about how the IRS actually paved the way for an infraction of U.S. tax law. Here’s how it went down. It started with a veteran tax lawyer by the name of Alvan Bobrow. He had a pretty good understanding of the law, (he was a tax lawyer after all,) and he knew where to turn to find guidance on IRS regs. The place where he went, and where all tax professionals go, was IRS Publication 590. Publication 590 is a document which offers official IRS opinion on a variety of tax related matters. What Bobrow was interested in was the regulation regarding rollovers. He had a few IRAs, and according to 590 he could perform a rollover with each one once a year. And that’s exactly what he did. He performed sequential rollovers on his various IRAs, and over a 6 month period he had temporary access to approximately $65,000. (A rollover allows the account holder to hold the funds for up to 60 days before redepositing.) The IRS called foul, and Mr. Bobrow found himself defending his position before the U.S. Tax Court. He pointed to the 590 guidance written by the IRS itself, but the judge didn’t go for it. The judge instead responded by pointing to the relevant law in the Tax Code itself which allows for only one rollover per year for each account holder. In other words, it doesn’t matter how many IRAs you may own, all together you can only do one rollover a year. (The judge also conveniently pointed out that this wasn’t the first time that official IRS guidance contravened binding law. Apparently, even the IRS doesn’t trust the IRS.) As a retirement investor, there are two big takeaways here. The first is the obvious one. Don’t believe accepted wisdom regarding tax law, even it comes from official sources. Sometimes it can be contradictory, sometimes it can be vague, and at all times it can be subject to a judge’s ruling. Which of course should leave you scratching your head. If you can’t trust the official version, then how are you supposed to know what to do? Enter takeaway number two. Follow the rules the best you can, but don’t do anything that could look like its taking advantage of them. By taking advantage of a legal loophole, you might be waving a big red flag and asking for an investigation. And even if you can justify yourself, it won’t necessarily help. Just ask Mr. Bobrow. The rules our tax system lives by were written by people just like you. That means that they are, by necessity, incomplete, malleable, and open to interpretation. In that sense the laws themselves are like your retirement investing: well meaning, sometimes frustrating, and in the end never quite living up to the rosy dream of perfection. And one final amazing takeaway. This case might be the first time that we actually felt sympatheitic for a tax attorney. Go figure.


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