Rollover of Federal TSP Account into Inherited ROTH Account

[Investorator]

I am having a problem with the Federal Thrift Savings Plan (TSP) program.

My sister died and I was a designated beneficiary for her TSP account. Following the advice of Ed Slott, the IRA expert, I instructed the TSP to rollover my sister's account into an Inherited ROTH IRA for me. The TSP form had a checkbox for rolling over the account into an Inherited IRA but made no mention of whether the rollover Inherited IRA was a traditional IRA or a Roth IRA. I was worried about this so I wrote in red ink on the application that I wanted the TSP rolled over into an Inherited ROTH (emphasis added) Account.

The TSP did the rollover last year into my Inherited Roth Account, but when I received the 1099-R this year, it shows that the rollover was not taxable (which inherently means they think they rolled over into a Traditional Inherited IRA rather than a Roth). The distribution code in box 7 is consequently wrong.

When I called the TSP 800 number to get this corrected, they told me this is how they do this. This can't be right since I don't have a correct distribution code to enter into Turbotax so taxes will be paid, and there will be a discrepancy when the IRA matches up the TSP 1099-R with my tax return in the future.

Also, the rules on rolling over from a TSP type account into a Inherited Roth IRA, are different in that you have to do the rollover and the Roth Conversion in one step. You don't have the ability to do a rollover into a traditional Inherited IRA and then later convert that Inherited IRA into a Roth Inherited IRA.

The legal authority for rolling TSP type accounts into Inherited IRA accounts developed in two increments over time. Initially you could only rollover into a Inherited Traditional IRA. Some time later the law was changed to allow rollover into a Inherited Roth IRA. It appears that the TSP program never got the memo on the subsequent law change.

The bottom line is that they did the rollover as I requested but are reporting it incorrectly on the 1099-R. What I need is a corrected 1099-R from the TSP program which reflects what they actually did.

Has anyone had experience with this issue? If so, how was it resolved, and do you have a telephone number for someone at TSP who understands the issue?

[PennySaved]

See https://www.tsp.gov/PDF/formspubs/tsp-583.pdf
Important Tax Information about TSP Death Benefits Payments, May 2012

Talks about transferring beneficiary TSP funds to an inherited IRA, but does not mention anything about an inherited Roth IRA.

[Geologist]

No doubt someone like Alan S. will be along to offer a more complete answer, but here is some partial information.

An inherited IRA cannot be converted into a Roth IRA (by a non-spouse beneficiary).

Whether there are special rules allowing inherited TSP accounts to be rolled directly to Roth IRA's, I don't know. It seems different from any rules I know of for the like of 401(k)'s but TSP is a different system.

[pjstack]

My understanding is that you may change funds within an inherited Roth, but not add to it. You must take RMD's but not add to it.

[Alan S.]

It is going to take me some time to piece together all the ramifications of this apparent error on the part of the TSP.

Under the Pension Protection Act of 2006, direct rollovers from a qualified plan to a Roth IRA were authorized effective 1/1/2008 and Notice 2008-30 confirmed that a non spouse beneficiary could also transfer their death benefit to an inherited TIRA or inherited Roth IRA. Initially these transfers were optional. However, in Dec 2008 Bush signed the WRERA tax legislation that made these transfers mandatory effective 1/1/2010, just like any other required direct rollover. Whether they think this transfer is mandatory or not, that is what they have done. While the TSP is formed under a different tax code section than 401k plans, they basically operate identically as far as I can tell.

The TSP did not adopt Roth options until last year, and while this does not directly affect this apparent error, the fact that employees are now making Roth elective deferrals, means that the non spouse beneficiaries of those employees have only one type of IRA they can roll to, ie. an inherited Roth IRA. The TSP literature I just pulled up on their site does not recognize the possibility of transfer to an inherited Roth by a non spouse beneficiary. This means that they are either in violation of WRERA or are somehow exempt. That said, their literature is very clear that once death benefits have been distributed, they cannot be returned (not that you would want to). The TSP remains considerably behind private plans when it comes to Roth related transactions from direct contributions to beneficiary options. It is rather surprising given their size and overall efficiency that they lag behind in implementing retirement plan portability expansions passed by Congress a couple blocks down the street.

The 1099R they issue should include the taxable amount in Box 2a, and 4 and G in Box 7. 2a should equal Box 1 unless there are after tax contributions in the TSP. There should be a potentially matching Form 5498 reporting receipt of a rollover contribution to the inherited Roth IRA and that should raise red flags at the IRS. The distribution codes on your 1099R would not trigger the taxes, it would be an amount in Box 2a.

Questions: Was the TSP aware from the transfer paperwork that the funds were being transferred to an inherited Roth, or did they totally overlook your "red ink" notation? At this point I can't come up with a better suggestion than to contact TSP and demand to talk to a supervisor in the tax reporting unit and request a corrected 1099R. If you don't get anywhere, you could enter the taxable amount yourself in the TTax program for Box 2a.

Note: Your RMDs from the inherited Roth will be tax free unless you take out more than the amount you rolled over before the 5 years has elapsed that will make any earnings tax free.

[tarnation]

It is going to take me some time to piece together all the ramifications of this apparent error on the part of the TSP.

Under the Pension Protection Act of 2006, direct rollovers from a qualified plan to a Roth IRA were authorized effective 1/1/2008 and Notice 2008-30 confirmed that a non spouse beneficiary could also transfer their death benefit to an inherited TIRA or inherited Roth IRA. Initially these transfers were optional. However, in Dec 2008 Bush signed the WRERA tax legislation that made these transfers mandatory effective 1/1/2010, just like any other required direct rollover. Whether they think this transfer is mandatory or not, that is what they have done. While the TSP is formed under a different tax code section than 401k plans, they basically operate identically as far as I can tell.

The TSP did not adopt Roth options until last year, and while this does not directly affect this apparent error, the fact that employees are now making Roth elective deferrals, means that the non spouse beneficiaries of those employees have only one type of IRA they can roll to, ie. an inherited Roth IRA. The TSP literature I just pulled up on their site does not recognize the possibility of transfer to an inherited Roth by a non spouse beneficiary. This means that they are either in violation of WRERA or are somehow exempt. That said, their literature is very clear that once death benefits have been distributed, they cannot be returned (not that you would want to). The TSP remains considerably behind private plans when it comes to Roth related transactions from direct contributions to beneficiary options. It is rather surprising given their size and overall efficiency that they lag behind in implementing retirement plan portability expansions passed by Congress a couple blocks down the street.

The 1099R they issue should include the taxable amount in Box 2a, and 4 and G in Box 7. 2a should equal Box 1 unless there are after tax contributions in the TSP. There should be a potentially matching Form 5498 reporting receipt of a rollover contribution to the inherited Roth IRA and that should raise red flags at the IRS. The distribution codes on your 1099R would not trigger the taxes, it would be an amount in Box 2a.

Questions: Was the TSP aware from the transfer paperwork that the funds were being transferred to an inherited Roth, or did they totally overlook your "red ink" notation? At this point I can't come up with a better suggestion than to contact TSP and demand to talk to a supervisor in the tax reporting unit and request a corrected 1099R. If you don't get anywhere, you could enter the taxable amount yourself in the TTax program for Box 2a.

Note: Your RMDs from the inherited Roth will be tax free unless you take out more than the amount you rolled over before the 5 years has elapsed that will make any earnings tax free.

TSP is created under Section 8432(b) of title 5, United States Code. I looked through them and I don't see where either the Pension Protection Act of 2006 or the Worker, Retiree, and Employer Recovery Act of 2008 provides for TSP direct rollovers from traditional to Roth IRA's.

[Alan S.]

See p 5 of the TSP Tax Notice and also the bottom of page 6, which states that "Beneficiary Participants" have the same transfer and rollover options as participants:

https://www.tsp.gov/PDF/formspubs/tsp-536.pdf

Further, Form TSP 90 clearly allows participants to transfer balances from the non Roth account to a Roth IRA. Therefore, so can beneficiaries.

Several forms and educational material appear to use the term "IRA" to refer to both traditional and Roth IRAs. In other places, they refer specifically to Roth IRAs. They should not use the term "IRA" to mean traditional only in one section and both types in another section.

[Investorator]

Just a further wrinkle in this whole affair. The Tax Info on publication 536 pertains to regular TSP Account Holders and Beneficiary Account holders. A Beneficiary Account Holder is a spouse who had inherited a TSP account. A non-spouse who inherits a TSP account is not a Beneficiary Account Holder. (An account is never created for a non-spouse beneficiary; the money is simply transferred out of the TSP.) This is unfortunate because the discussion in this publication acknowledges transferring to an inherited Roth account, while the TSP publication for non-spouse beneficiaries does not.

Similarly, the information in form TSP-90, Withdrawal Request for Beneficiary Participants, applies only to Beneficiary Account Holders (spouses who inherited a TSP account).

The tax info for non-spouse beneficiaries in contained in TSP-583. Unfortunately, although this publication was updated in May 2012 it doesn't include any explicit discussion of transferring non-spouse inherited money to a Roth Inherited IRA. Their discussion on transferring to inherited IRAs implicitly refers to Traditional IRAs due to what they are saying about taxes.

This created concern on my part, so I went back to Ed Slott's website, http://www.irahelp.com, and searched for TSP inherited IRAs. He explicitly states that TSP non-spouse beneficiaries can transfer their benefit to an inherited Roth IRA: https://www.irahelp.com/forum-post/1278 ... rment-plan

So what I'm left with is a general law that says a beneficiary can transfer to an inherited Roth, no acknowledgement that I can find by the Federal TSP that this law pertains to them, but Ed Slott explicitly insisting that the law does apply to the Federal TSP.

I registered on the Ed Slott forum this morning and posted the question regarding specific legal obligation of the TSP to transfer to Inherited Roth IRAs for non-spousal beneficiaries, how the 1099-R should be filled out, and a TSP point of contact.

Thanks to Alan S. and other repliers to my original question here.

[Alan S.]

The reply on Ed's website was not from Ed, but it's understandable since the TSP generally follows all the IRS rules for private qualified plans. The literature on the TSP site is somewhat confusing and it not designed to be understood easily by a non spouse beneficiary who might reasonably expect the TSP to follow the same guidelines as other qualified plans. And they do for the most part, but apparently have decided for whatever reason not to offer direct rollovers to non spouse inherited Roths. This is probably due to the fact that they just have not got around to it and/or changing their literature.Therefore, you are correct that a "beneficiary account" holder must be a spouse as their literature not so clearly indicates. This is an omission at the TSP, as they spent most of the last 18 months trying to roll out their designated Roth option without considering beneficiaries. I wonder if an employee passes after contributing to the Roth with a non spouse beneficiary, where the TSP thinks this funds should go since a Roth cannot be rolled into a TIRA!! I suppose they could just require the beneficiary to distribute the balance......

So now the funds are in your inherited Roth and the 1099R contains no taxable amount in 2a. If this inherited Roth means alot to you, you could be aggressive and report the taxable amount as if it was in 2a, even if the TSP refuses to correct the 1099R. But if you can get to the tax unit at the TSP or at least to a senior staffer there, you could try to get them to amend the 1099R. You have some leverage since they ignored your request on the form you submitted and did not contact you, but you did not indicate the actual mechanics of the transfer. Did they mail you a check, and if so how did the payee read? If they are willling to acknowledge some fault according to their procedures, their solution will probably be to request a transfer back to the plan and then they will re transfer the funds to an inherited TIRA to agree with their 1099R. You may not want that outcome, but I still think you need to contact someone there that understands the entire picture including the fact that this is commonplace with the private sector qualified plans.

In the meantime, since a non spouse beneficiary cannot roll over an inherited IRA account, do NOT take a distribution from the inherited Roth other than your RMD because you cannot roll it over and even if though you intended to pay taxes on it anyway, you would lose the potential of additional tax free gains in the Roth.

Let us know what the TSP says, unless you plan to just report the income and leave the TSP out of it. I doubt the IRS will care, since their own Regs allow this transfer and they are getting their taxes on the full amount. I would be surprised if you ever heard from the IRS if you just added the taxable amount that would have been in 2a into your tax program.

[tarnation]

I don't think they offer it because the TSP is not covered in the previously mentioned legislation creating those type of rollovers. Maybe I just missed it; can anyone show me the law that says they can do it?

[bsteiner]

In response to Investorator: that was my post on Ed Slott's discussion forum back in 2008. I didn't consider the possibility that this could be different under the Thrift Savings Plan from how it would be if it were a qualified plan created by a private employer. While the Thrift Savings Plan works pretty much like a 401(k) plan, it's not a 401(k) plan.

Essentially, the reason a nonspouse beneficiary of a qualified (employer) plan can transfer a deceased participant's benefit to an inherited Roth IRA is that the law allows a nonspouse beneficiary to transfer the benefits to an inherited IRA, and a Roth IRA is an IRA.

While it would make sense to allow a nonspouse beneficiary of TSP benefits to transfer the benefits to an inherited IRA, I haven't found anything yet that would (or would not) allow a nonspouse beneficiary to do this.

To avoid further confusion, I've supplemented my post on Ed's discussion forum.

[tarnation]

The TSP is often behind other plans due to legislative lag (for whatever reasons), e.g. the TSP did not get authorization for a Roth option until 2009. Whereas the law provided for other plans well before that 2001? and even made them permanent in 2006?.

[Alan S.]

The TSP is often behind other plans due to legislative lag (for whatever reasons), e.g. the TSP did not get authorization for a Roth option until 2009. Whereas the law provided for other plans well before that 2001? and even made them permanent in 2006?.

Yes, but there is a difference between an optional offering like the designated Roth, which around half of all plans have yet to adopt, and not recognizing an inherited Roth IRA as an acceptable plan for a non spouse transfer. Not having any inside information about what makes the TSP tick, one possibility here is that the TSP thinks they are in compliance with WRERA because they do provide transfers to inherited TIRAs, and various sections of the tax code use the term "IRA" to include both TIRA and Roths. Use of the term "IRA" without differentiation has been included in several TSP publications and inherently causes confusion, particularly to non spouse beneficiaries who have never had a TSP account and are not accustomed to the TSP uses of certain terms in contrast to the way private plans use those terms.

Section 7701 of the tax code contains section j to describe the TSP. It states that the TSP is treated as a qualified trust under Sec 401a and 501a. Sec 402c includes the definition of eligible rollover distributions and refers to i and ii of Sec 8b which are traditional IRA and traditional IRA annuities respectively. However, Sec 408A (Roth IRAs) also specify that they are considered to be IRAs as described in the aforementioned i and ii of Sec 8b. Just guessing, but the TSP may be looking at i and ii and may not think a Roth IRA can receive a transfer for a non spouse beneficiary. Just a guess.

Another possibility is that the TSP simply is behind the curve. It took them the better part of two years to introduce their designated Roth option last summer. During that period they might have never received a request for a transfer to an inherited Roth IRA, so their literature may not have even contemplated this possibility. It's really no more work to transfer to an inherited Roth and does not require added plan accounting, other than determining the taxable amount for Box 2a.

Since last summer the TSP has thousands of people making designated Roth deferrals and certainly many participants have non spouse beneficiaries. If the participant passes, I hope the TSP does not transfer the death benefit into a TIRA as that cannot be done (excepting a recharacterization). The only sensible option for the beneficiary is the inherited Roth for these assets unless they just want to cash out the death benefit.

[Investorator]

The reply on Ed's website was not from Ed, but it's understandable since the TSP generally follows all the IRS rules for private qualified plans. The literature on the TSP site is somewhat confusing and it not designed to be understood easily by a non spouse beneficiary who might reasonably expect the TSP to follow the same guidelines as other qualified plans. And they do for the most part, but apparently have decided for whatever reason not to offer direct rollovers to non spouse inherited Roths. This is probably due to the fact that they just have not got around to it and/or changing their literature.Therefore, you are correct that a "beneficiary account" holder must be a spouse as their literature not so clearly indicates. This is an omission at the TSP, as they spent most of the last 18 months trying to roll out their designated Roth option without considering beneficiaries. I wonder if an employee passes after contributing to the Roth with a non spouse beneficiary, where the TSP thinks this funds should go since a Roth cannot be rolled into a TIRA!! I suppose they could just require the beneficiary to distribute the balance......

So now the funds are in your inherited Roth and the 1099R contains no taxable amount in 2a. If this inherited Roth means alot to you, you could be aggressive and report the taxable amount as if it was in 2a, even if the TSP refuses to correct the 1099R. But if you can get to the tax unit at the TSP or at least to a senior staffer there, you could try to get them to amend the 1099R. You have some leverage since they ignored your request on the form you submitted and did not contact you, but you did not indicate the actual mechanics of the transfer. Did they mail you a check, and if so how did the payee read? If they are willling to acknowledge some fault according to their procedures, their solution will probably be to request a transfer back to the plan and then they will re transfer the funds to an inherited TIRA to agree with their 1099R. You may not want that outcome, but I still think you need to contact someone there that understands the entire picture including the fact that this is commonplace with the private sector qualified plans.

In the meantime, since a non spouse beneficiary cannot roll over an inherited IRA account, do NOT take a distribution from the inherited Roth other than your RMD because you cannot roll it over and even if though you intended to pay taxes on it anyway, you would lose the potential of additional tax free gains in the Roth.

Let us know what the TSP says, unless you plan to just report the income and leave the TSP out of it. I doubt the IRS will care, since their own Regs allow this transfer and they are getting their taxes on the full amount. I would be surprised if you ever heard from the IRS if you just added the taxable amount that would have been in 2a into your tax program.

With regard to the mechanics of the transfer, the TSP directly transferred the money to my Inherited Roth IRA Account at Fidelity. My form requesting the transfer clearly indicated that the Fidelity account was an Inherited Roth Account (because I wrote that in). My fingers never touched the money. In fact, the TSP literature says that one cannot rollover a TSP disbursement into an Inherited IRA so if they had sent me a check I would have been up the creek.

This Fidelity Inherited Roth IRA contains other Roth assets that I inherited from my sister, and I have been trading in this account so the TSP transferred assets and the other Roth assets are hopelessly intermingled at this point. Thus I am not interested in undoing the TSP transfer. I simply need for the TSP to correctly report on the 1099-R what they actually did.

I am going to contact the TSP again, and following your suggestion, specifically ask for a referral to a supervisor in the Tax Reporting Unit (which I expect will be denied, as my experience has been that TSP is adamant about not giving out telephone numbers - whenever you get a letter from anyone there it always seems to have only the general 800 number listed for followup).

If I can't get a telephone number from them, I am going to send a certified letter to the TSP Service Department requesting a corrected 1099-R.

If I don't hear back from them in time for my taxes I am going to act as though the taxable amount in box 2a is the amount transferred to the Inherited Roth IRA and proceed to fill out my taxes.

The TSP is clearly in the wrong here. They did in fact transfer the money to an Inherited Roth account and the 1099-R does not correctly reflect that fact.

If they come back and say they don't have the authority to transfer to an Inherited Roth, I expect them to back that up with a specific legal reference. If they want to undo the transfer they already made, I expect them to provide a legal reference authorizing that action.

If i have to guess how this will turn out, I predict that all the confusion results from their having just not considered non-spouse beneficiary transfers to an Inherited Roth IRA, rather than their having a specific position on the issue.

And furthermore, as you pointed out, since TSP accounts now may contain Roth assets, going forward, the TSP will have to have a process to transfer assets to an non-spouse beneficiary's inherited Roth IRA.

[Alan S.]

OK, now I have a better idea of your preferred approach to this problem.

With respect to your receipt of the check, that would not have been a problem as long as it was not made out to you. It would still have been a direct rollover. If it had been done that way, you might have recalled if the check indicated "Roth IRA" on the payee line or elsewhere and if so it would eliminate the TSP from indicating that Fidelity made the error. Plan CSRs often attempt to deflect errors by referring you to the other custodian.

There is another current post here about how to get TTax (if you use that program) to accept a taxable amount in a Roth rollover (inherited Roth is no different) when the 1099R does not show a taxable amount in 2a. The OP there indicated that just entering a figure in 2a did not solve their problem, so Huey supplied a "work around" to generate the correct result.

The IRS may not care about this since their regulations clearly allow this type of transfer. Whatever the relationship between the TSP and the DOL, it is possible that they might feel obligated to take some action if they violated a plan rule and if they think their obligation to do a direct rollover allows them to limit the type of IRA to a TIRA, but this is unlikely. More likely, as a non spouse beneficiary they will probably politely just give you the brush off and asset that their 1099R is correct.

My guess is that the TSP will not do anything and neither will the IRS as long as you report the taxable portion.

Note that you have a combined inherited Roth, so the 5 year holding period for this Roth would start with the first year the original Roth owner made a Roth contribution, so that would be driven by the funds from the other source. Until the 5 years is reached, you have to report RMDs or other distributions on Form 8606 and you have to know the amount of regular and conversion contributions to do that. After the 5 years is reached, the entire Roth is qualified and you won't need the 8606 any longer and can enter the distribution directly on line 15a of Form 1040, 0 on 15b.

[tarnation]

I don't know if it adds anything at this point, but I did run across this.
Thrift Savings Plan BULLETIN
Pension Protection Act of 2006 — New Benefit for Beneficiaries of Thrift Savings Plan Accounts
https://www.tsp.gov/PDF/bulletins/06-8.pdf