Even though Florida is not a community property state, Florida does have a statute that addresses community property for residents of Florida who have moved here from a community property state. Community property can be very advantageous for tax and marital reasons. While I am NOT a community property expert, as I understand, in a community property state, even though property is purchased or earned by only one spouse, both spouses own a 50% interest in the property when the property is acquired or earned .
The Internal Revenue Service (the “Service”) , in a recent private letter ruling (“PLR”) 201623001, determined that, while an individual retirement account (“IRA”) may be community property for state law purposes, if the named beneficiary is not the surviving spouse, distributions from the inherited IRA to the surviving spouse will not qualify for favorable spousal rollover treatment.
While the PLR referred to the parties as A, B and C, I am referring to A, B and C as Husband, Wife and Child. Husband and Wife were married and lived in a community property state and had a Child. Husband died and named Child as a beneficiary of his IRA. Wife filed a claim against Husband’s estate claiming her 1/2 community property interest. Wife and Child entered into a settlement agreement which provided that Wife would get a portion of the IRA. The settlement agreement, approved by the court, provided that the custodian of the IRA would assign the agreed amount of the IRA to Wife as a spousal rollover.
Wife applied to the Service for a PLR to determine whether the distribution would qualify for the spousal rollover and that such distribution would not be treated as a taxable event to either Wife or Child.
The Service deferred to the state court as to what was or was not community property, but determined that, because Child was the beneficiary of the inherited IRA in Child’s name, and the custodian would make a distribution from Child’s inherited IRA to Wife, Wife could not be treated as a spouse for rollover treatment and the distribution would be taxed to Child. Thus, the IRS did not honor the state court order.
ADVICE: Hopefully these adverse tax consequences to Child were considered in the settlement agreement so Child did not have to pay taxes without reimbursement from Wife. A PLR is only binding on the individual requesting the ruling so the outcome may be different in another request. Of course, with proper planning this outcome could have been avoided. This PLR is also a reminder that community property state laws do not always reconcile with the tax laws.
WORD OF THE WEEK: Inherited IRA is a defined term in the Code as an IRA which is held by an individual (not a surviving spouse) who acquired such IRA by reason of the death of another individual. Special statutes and regulations apply for inherited IRAs, such as required minimum distributions and state creditor exemptions.
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