Taxation & Estate Planning

A Tax Court win for the good guys

By howardlevy

It really does happen - you can overturn an IRS audit in Tax Court.

My client disagreed with an IRS audit that determined she should pay a 10% tax on early distributions from her retirement account.  She had taken early retirement, and wanted to start taking withdrawals from her retirement account. Ordinarily, this would cause a 10% early distribution penalty.  But she chose to take the distributions in substantially equal amounts each year, an exception under Internal Revenue Code 72(t).

One year, in addition to the substantially equal distributions, she took additional money out of the retirement account as an early distribution to pay for her son’s college tuition.  Withdrawals to pay for college education are also not subject to the 10% early distribution tax.

The IRS audited the return and determined that the education withdrawal modified the substantially equal distribution.  The IRS argued that to avoid the 10% tax on the substantially equal payments no other distributions can be made from the retirement account.  The theory was that the college education withdrawal modified the other distributions so that they were no longer equal in amount every year.  If the IRS was correct, all the substantially equal distributions would have been modified and subject to the 10% tax.

The Tax Court’s decision -  Benz v. Commissioner, 132 T.C. 15 (2009) - overturned the IRS audit with some common sense - a permitted distribution (education) does not modify and disqualify another permitted distribution (substantially equal payments).  The substantially equal payments were not modified and were not subject to the 10% tax.

Tax Court can be a great equalizer in setting straight IRS administrative decisions.

Full post as published by IRS and the Law on May 17, 2009 (boomark / email).