The Estate of James Caan recently lost a five year battle with the Internal Revenue Service (IRS) relating to the distribution of a partnership interest in a hedge fund housed inside his IRA. The October 18th ruling by Judge Elizabeth Copeland instructed the estate to pay $953,898 in tax, interest, and penalty on a distribution that was originally only $1,548,100.
Back in 2015, while the actor was still with us, his investment advisor changed firms from UBS to Merrill Lynch. The actor tried to move his IRA over to Lynch, but had difficulties with the $1.5M invested in the hedge fund.
So they liquidated the position and almost a full year later re-invested the money in the same hedge fund.
The IRS treated it as a distribution rather than a non-taxable transfer, and charged tax on the transaction. The actor thinking that this was wrong, then began a legal proceeding asking the Service to abate all tax, interest, and penalty on the transaction. They even had a finding from a CPA, stating that it should not be taxed.
For those of you who don’t know the rule, you have 60 days to reinvest your IRA funds before they become taxable. That’s 60 days, not 61, and certainly not almost a full year.
The original tax was nowhere near the current amount. But once you add in eight years of penalties and interest, it becomes as ridiculous as it is.
Let me leave you with this.
Difficulties with commissioned investment advisors is so common in my industry that I could probably write an entire book about it. When handling taxes on everything from IRA’s to 529 Plans and 401 K’s, it’s common for the investment people to mismanage the transfers.
Investment advisors aren’t tax accountants. They probably should know what they’re doing, but generally don’t. They’re more interested in saying whatever is necessary to keep you as a client so they can continue receiving commissions.
How this issue with the Caan Estate went as far as it did, is beyond imagination. It’s clearly an open and shut case. The late actor received a distribution and didn’t reinvest it inside the 60 day rule. Period. End of story. Fahgetabadit. It’s taxable.
When we have these issues on transfers that were supposed to be non-taxable, the client always calls the investment advisor who then calls their hand-picked CPA for advice. They always have a “relationship” with one specifically for these needs.
Do you think that the CPA is going to give good advice, or will they say whatever is necessary to maintain that client relationship. Think long and hard. I’ll give you 99 guesses and the first 98 won’t count.
Of course, that bad “advice” leaves me in the middle of a client who doesn’t want to pay tax because their investment advisor made a mistake. But now they also have a CPA saying that it isn’t taxable as well, just like the Caan Estate that now has to pay $1M in tax, interest, and penalty on a $1.5M transfer.
These cases are black and white issues. There’s no shades of grey. If this happens to any of you, please be smart enough to listen to the correct person. It may save you a significant amount of penalty and interest.
We’re all going to get through this. Let’s get through it together.
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