Michael E. Kitces, MSFS, CFP(r), CLU, ChFC wrote:
- quote -

Hi Michael:

Thanks a lot for taking the time to answer my question. I have a much
better understanding now, and it will help me when consulting with
someone.

Andy

Andy wrote:
- quote -


Andy,
First, the easy stuff:
1) There are two critical numbers on the 1099-R - Box 1, which shows
the GROSS distribution, and Box 2 which shows the TAXABLE amount. Box 1
SHOULD show the full amount of the distribution, but Box 2 should be
less, signifying the cost basis of the annuity. If Box 2 is EQUAL to
Box 1, you should at least inquire with the annuity company about why
the contract apparently has 'no basis'. Note that if the contract was
established prior to August 13th, 1982, and especially if the contract
has contributions attributable prior to October 21st, 1979, special
rules apply.
2) VA2 company should have sent you a 1099-R as well, if you took the
withdrawal in 2004. It may or may not reflect any actual tax due, but
it should have been sent nonetheless.

Now, the harder stuff:
Technically, if VA1 had been fully distributed to your checking
account, and you had access to the money, it's VERY questionable as to
whether you would really be allowed to 'take it back'. Under a strict
interpretation of the statutes and regulations, the answer would be no
- once you did it and had access to it, you're not entitled to change
your mind.

That being said, you can always 'try'. In that case, you would want a
letter from the company explaining the circumstances, situation, and
the 'reason' that they reversed the event. You would ostensibly file
your tax return as though you had JUST taken the $5k withdrawal, attach
a letter explaining WHY you believe that you should ONLY be taxed on
the $5k withdrawal and why the IRS should 'ignore' the other $55k
1099-R, and see what the response is.

The assistance of a tax consultant would strictly be for the wording
and strategy of the letter, whether to send a letter or just report it
and see what the IRS does, whether to report the higher $55k amount and
consider allowing you to declare the lower $5k amount instead, etc. So
it's not that there's anything particularly "special" or "unique" about
the use of a tax advisor here - simply that someone with experience in
this area may be more knowledgeable and skilled about the BEST strategy
to approach the reporting situation and the BEST way to make the
argument to the IRS.

But it's worth pointing out that from a strict interpretation, if the
distribution was really completed you're on thin ice to win this
argument. Not that that's "bad" necessarily - it just means that you
may in fact have to fully declare the income in 2004 and not be allowed
to report "just" the $5k distribution.

It would probably be worth talking to a tax advisor that has
experience/expertise in tax COMPLIANCE issues about reporting
'questionable' transactions to get some suggestions about the best way
to try to report/argue this with the IRS. My comments here are NOT
intended as formal tax advice or a recommendation about a course of
action - they are simply to give you a sense of the situation you're
facing.

Hope that helps a little!

Respectfully,
- Michael E. Kitces, MSFS, CFP(r), CLU, ChFC


======================================= MODERATOR'S COMMENT:
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This is a long complicated question, and I am probably going to end up
going to a professional tax advisor, but I thought I would post it here
so I can at least try to understand the basic principles involved
before I talk to someone.

My father passed away last year. He named me as a beneficiary on two
variable annuities (VA1 VA2) which were still in their accumulation
stage.

With VA1, which had a balance of about 55K, I sent in a form electing a
lump sum distribution. About a week a after sending in the form I
realized that if I took it as a lump sum distribution all of the gain
(55K less what my dad paid in originally) would be taxed as ordinary
income, pushing me up into the 25% tax bracket, which was something I
wanted to avoid. I called the annuity company, and they said that
although they had already transferred the money into a checking account
at their company they could reverse the transaction (since I hadn't
touched the money), put the 55K back into a variable annuity, and then
I could elect the 5 year withdrawel plan where I have five years to
withdraw all the money and so can spread the taxable portion out so
that I don't bump myself into the 25% tax bracket in any one year. I
told them to do that, and then took 5K out of VA1, the most I could
withdraw from it and stay in the 15% tax bracket.

For VA2, which was much smaller and didn't have much gain I took a lump
sum distribution, which, when combined with the 5K from VA1, maxed out
my 15% tax bracket for 2004.

Now its well into February and here is what I have received:

-A 1099 from the VA1 company showing 55K total paid to me and 55K
taxable income to me.
-A second 1099 from the VA1 company showing 5K total paid to me with 5K
taxable.
-No 1099 at all from the VA2 company.

I called up the VA1 company, and they said that they had to send me a
55K 1099 because a distribution was made, but that if I went to a tax
advisor with the confirmation letter they would send me the tax advisor
would be able to file something with the IRS to make the 55K
distribution not count towards taxable income and I would only be taxed
on the 5K withdrawel.

After getting off the phone I realized that I had forgotten to ask two
other questions: 1. Why did the 1099 show the full 55K amount of the
annuity as taxable income when the gain on the account was only
approximately 20K? and 2. By issuing a 55K 1099 and a 5K 1099 they are,
at the very least, reporting the same 5K twice as taxable income.

So, my questions are:

1. Did the VA1 company screw up the 1099s? If so, what should the 1099
from the VA1 company have said?

2. Do I really need to go to a tax advisor to clean this up, or is it
something I can do myself using publicly available forms (I have a JD,
so I am experienced in puzzling out complicated stuff)? What kind of
tax advisor should I go to? (I know nothing about tax advisors; I have
always done my own taxes).

3. Whats up with the VA2 company? Did they screw up by not sending me a
1099? Should I pester them to send me one?

Sorry for the long complicated post, and thanks in advance to anyone
who tries to help.

Andy