I received a notification of assessment from Kansas regarding retirement funds from the Kansas Public Employees Retirement System.

[Jjsbaby2]

I have received a Notice of Assessment from the state of Kansas  for 2019 regarding my retirement distribution.  I was a State employee and I currently receive KPERS retirement.  The issue is regarding the funds I took from my KPERS and invested them into a different qualified annuity.  I receive monthly distributions from both the annuity and KPERS.  I took half of my KPERS before or when I retired in 2008 to invest in this annuity and have received monthly distributions since that time. 

     When I did this I made certain I did a direct rollover into a qualified account as I was instructed to do.   I have not and should not have to pay State income tax since I used my exempt Kansas retirement funds for this.   

     My 1099 R for this annuity has the same amount in box 1 and box 2a.  Box 2b has taxable amount not determined checked.  There is a distribution code of 7 with IRA/SEP/Simple checked.  There are no amounts in state distribution. (box 14)   The state payers box (13) has their tax id number and there was state taxes taken out (box 12).  

     I did not do anything different in 2019 than I did in years before and have inputted my 1099r in the same way since.  So far only 2019 is being questioned.  My question is what is the best way to fix this or clarify this to the state?  I do not understand why this issue would come up this many years later.  Is this something the annuity could clarify with a different or additional distribution code on my 1099r?  Would a letter of explanation be sufficient?  Any advice about how to deal with this would be greatly appreciated.

[Anonymous_]

@dmertz

[dmertz]

The tax-free portion of the rollover from KPERS to the IRA annuity became basis in nondeductible traditional IRA contributions in your IRA annuities.  This nontaxable amount should have been present in box 5 of the 2008 Form 1099-R that reported the distribution from KPERS.  You should have included this taxable amount on line 2 of the first Form 8606 you were required to file subsequent to the distribution from KPERS.  With respect to traditional IRAs, Form 8606 Part I is required to be filed whenever you make a regular nondeductible contribution to a traditional IRA, or you have basis in nondeductible traditional IRA contributions and make a distribution from your traditional IRAs (except for distributions that are qualified charitable distributions or HSA funding distributions.

Did your 2008 Form 1099-R from KPERS show the nontaxable amount in box 5?

Did you file Form 8606 when required as described above and, if so, did you include the nontaxable amount from KPERS on line 2 of the first Form 8606 you filed after the distribution from KPERS?

Did you report on your tax returns the distributions from your IRA annuity?  They must be reported and the taxable amount determined on Form 8606.

It seems odd that Kansas would challenge your reporting of the nontaxable portion of an IRA distribution without the IRS first doing so.  Kansas has no way to know how much of your IRA distribution is nontaxable because Kansas has no way to know how much basis you have in nondeductible traditional IRA contributions.

Also, the IRS has not provided any specific guidance on how to determine the year-end value of an annuity in payout status for the purpose of completing line 6 of Form 8606.  If the annuity company provided a year-end value (reported to the IRS on Form 5498 and to you on either Form 5498 or a year-end statement), that's the value you must include on line 6.  In the absence of a year-end value reported by the annuity company, individuals have taken various approaches such as the aggressive approach of treating the year-end value as $0 or a less aggressive approach such as using the current surrender value if one is provided or the current actuarial value of the annuity.

[Opus 17]

@dmertz  ‘s answer seems to mainly refer to IRS forms. If you got a notice from Kansas but not the IRS, maybe the transaction was reported correctly to the IRS but not correctly to Kansas. You would need to find somebody who is an expert in Kansas state tax returns.  Possibly TurboTax customer support could help, they do have state specialists available, but I don’t know if they handle old issues like this.

(If TurboTax prepared the forms incorrectly, and you owe taxes and penalties as a result, the TurboTax guarantee is supposed to cover the penalties. However, if TurboTax prepared the form incorrectly, but you won’t owe the tax after correcting the forms, then the TurboTax guarantee doesn’t apply. So I’m not sure where to tell you to get assistance.)

[dmertz]

Correct.  For the most part I addressed only the reporting of the distribution from the IRA annuity.  As Opus 17 suggests, perhaps the issue is with the reporting of the separate distribution from KPERS which requires specific reporting on Schedule S of the Kansas tax return.  Hopefully you also correctly reported on your 2008 tax return the 2008 distribution from KPERS that was rolled over to the IRA annuity.

[Jjsbaby2]

I believe it is correct that it was reported correctly to the IRS but possibly not to the state.  I have several 1099 R's from KPERS in 2008.  It seems we moved all kinds of things that year.  After finding my 2008 taxes and studying them, it is even more complicated than I stated.   We actually moved a lot of things around to simplify retirement.  Just my luck for an issue to come up 14 years later.

On the 1099R from the lump sum distribution from KPERS there is not any amount in box 5.  There is a distribution code of G.  There is no amount listed in box 2 and the total distribution box is not checked.  The distribution amount in box 1 is the same amount in the state distribution box 12. No taxes are deducted.

On the second 1099r from KPERS which is the normal KPERS distribution I have received every year since 2008 does have a small amount listed in box 5, however I think that pertains to a Roth contribution.  This is the only year that I have had an amount in box 5.  

On the schedule S from Kansas the lump sum amount is listed, however I think it is listed incorrectly.  It is on a line that actually says do not report KPERS lump sum distributions on this line.  We moved a lot of IRA's and annuities that year, so this distribution is larger than the lump sum.   We paid a lot of tax that year due to moving all these but made it through the audit without issues.

The clinker is that we actually got audited in 2008 because we missed one of these changes.  We sent in an amended taxes to both Federal and state.  I am thinking that somehow it got confused in the audit. 

I am not too concerned about finding an expert because I am certain this money is kansas tax exempt and believe we have the documentation to prove that with the 1099r KPERS lump sum distribution document.  I just hope my financial planner knew what he was doing and put it in a qualified fund and that no additional hiccups come up.  I think he did as we have not had any issues come up until now.  

I realize we will probably have to have an informal conference with the dept of Kansas revenue to get this straightened out but in an attempt to avoid this, do you think if I sent the State a copy of my 1099's from that year, along with pre and post audit tax documents this would show what happened?  Of course, I would also send in the 1099R's for 2019 as requested.

Thank you very much for your help.  Opus 17 too!

[dmertz]

Unfortunately, at least for a partial distribution the instructions for Form 1099-R do not seem to require that box 5 show the amount of after-tax funds being rolled over when the rollover is to a traditional IRA (code G), only when being rolled over to a Roth account.  It would be helpful if box 5 always showed the amount of the distribution that would be nontaxable if not rolled over.