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Case of the Week: IRS as Creditor of Retirement Plan Assets

The ERISA consultants at the Columbia Management Retirement Learning Center Resource Desk regularly receive calls from financial advisors on a broad array of technical topics related to IRAs and qualified retirement plans. A recent call with an advisor in Alabama is representative of a common inquiry involving 401(k) plans and IRS tax levies. The advisor asked:

“Is the plan account balance of a 401(k) plan participant protected from an IRS tax levy?”

Highlights of Discussion

• Unfortunately, no it is not. If the participant has an unpaid tax liability the IRS has the authority to levy against his or her 401(k) plan account balance (Treas. Reg. § 1.401(a)-13(b)(2)).
• In fact, any qualified retirement plan or IRA — including traditional, Roth, savings incentive match plan for employees (SIMPLE) or simplified employee pension (SEP) plan IRAs — may be subject to an IRS tax levy.
• Part 5.11.6.2 of the IRS Internal Revenue Manual (IRM), available at irs.gov, provides instructions regarding notices of IRS tax levies with respect to assets in retirement plans. The IRM instructs agents to levy on retirement accounts only after:
— Considering all property other than retirement assets that may be available for collection.
— The taxpayer exhibits “flagrant” conduct. (EXAMPLE: Jake, who has an outstanding tax liability with the IRS, continues to make voluntary contributions to retirement accounts while asserting his inability to pay the amount he owes to the IRS. The IRS could deem this conduct as flagrant.)
— Determining that the taxpayer would not depend on the retirement plan assets for necessary living expenses.
• An IRS levy may only reach the taxpayer's “present rights.” (EXAMPLE: Amanda has money in a 401(k) plan but cannot withdraw it until she experiences a distribution-triggering event as listed in the plan document. An IRS levy may identify her 401(k) plan balance, but the money cannot be paid until Amanda can withdraw it under the terms of the plan.)
• When money is withdrawn from a retirement account to satisfy an IRS levy, the taxpayer would include any pretax amounts in his or her taxable income for the year. Fortunately, an exception to the 10% additional tax on early distributions for taxpayers under age 59-1/2 applies if the money was withdrawn because of a notice of levy served on the retirement account.

Conclusion

In most cases, 401(k) plan assets are protected from creditors — unless the creditor is the IRS. But IRS agents are instructed to levy against retirement plan assets only as a last resort. Any taxpayer addressing an IRS tax levy should seek guidance from his or her tax advisor or attorney.

The Columbia Management Retirement Learning Center Resource Desk is staffed by the Retirement Learning Center, LLC, a third-party industry consultant that is not affiliated with Columbia Management. For informational purposes only. Please consult a tax advisor or attorney for specific tax or legal needs. © 2013 Columbia Management Investment Advisers, LLC. Used with permission.

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