Understanding form 1099-R and how to enter in TurboTax

[DIY_Tax_Person]

I am under age 59 1/2 and receive annual SEPP payments from a non-qualified variable annuity.

For privacy, the numbers below are not the actual numbers on my 1099-R, but they are proportional.

On the 1099-R form that I get each year it will say...

Box 1) Gross distribution $10,000

Box 2a) Taxable amount $10,000

Box 4) Federal income tax withheld $1,000

Box 7) 2D   whereby 2 = Early distribution (except Roth IRA), D = Annuity payments from nonqualified annuities

Everything else is blank

With a SEPP, you are not supposed to pay the 10% penalty, even when less than age 59 1/2. So what exactly is the $1,000 in box 4 being withheld for? Just for regular ordinary income tax? This annuity has indeed appreciated in value quite a bit.

And finally, is it necessary to fill out anything in part 1 of Form 5329? My understanding is that, because of the distribution code (2D), filling out this form 5329 is not required. Is it optional? It is odd that just this year, for the first time, TurboTax began asking a new question after entering the 1099-R information...

These situations may lower your tax bill. If you used the money you took out of an annuity for any of the following reasons, you may not have to pay the additional tax. Enter the amounts that you used for any of the following:

Equal periodic payment

permanent disability

death

IRS levy

other reason

[ColeenD3]

Yes, you must indicate on the Form 5329 that you have the SEPP. It is just a fancy term that says you qualify for an exception.

Allowable exceptions to the 10% early (before age 59-1/2) withdrawal penalty  are:

1. Rollovers to another IRA (no tax due)
2. Disability
3. Medical costs exceeding 10% (7-1/2% if over age 65) of AGI
4. Separation from service at age 55 or older (pensions & 401K but not IRAs)
5. Substantially equal periodic payments(SEPP)
6. Military reservist called to active duty
7. Public safety employees separated after age 50
8. IRS levy
9. Education expenses (Only IRAs; not available for withdrawals from 401k plans)
10. Court ordered spousal payments
11. First time home buyer (Only IRAs; not available for withdrawals from 401k plans)
12. Beneficiary
13. Unemployed Medical Insurance
 

[DIY_Tax_Person]

I actually got a conflicting opinion from another tax accountant (not from this forum). They said that basically the payer (Vanguard in this case) already determined that these payments to me are not subject to the penalty, and because of that, form 5329 is NOT required. They said that there is nothing wrong if I choose to add the form.

I would be curious to hear what your response is to this, as well as what other tax people in this forum think.

[macuser_22]

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@DIY_Tax_Person wrote:

I actually got a conflicting opinion from another tax accountant (not from this forum). They said that basically the payer (Vanguard in this case) already determined that these payments to me are not subject to the penalty, and because of that, form 5329 is NOT required. They said that there is nothing wrong if I choose to add the form.

I would be curious to hear what your response is to this, as well as what other tax people in this forum think.

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Because there is NOTHING on a 1099-R that identifies this as a SEPP except the attached 5329 with a code 02 on line 2, you would be very likely to receive a letter from the IRS in a year or so asking for additional tax.  It is better to file the 5329 to avoid having to explain later.

[DIY_Tax_Person]

So what exactly is the $1,000 in box 4 being withheld for? Just for regular ordinary income tax?

In reality I receive only $9,000 from Vanguard.

[macuser_22]

The box 4 amount is Federal tax withholding - the amount that the account trustee sent to the IRS to pay the "estimated" tax on the distribution.   No different than W-2 Tax withholding that an employer does.

That withholding will be added to all other W-2 and 1099 withholding on the 1040 line 17 to offset any tax liability.

[macuser_22]

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@DIY_Tax_Person wrote:

In reality I receive only $9,000 from Vanguard.

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No. 

[macuser_22]

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@DIY_Tax_Person wrote:

In reality I receive only $9,000 from Vanguard.

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No.  You received $10,000 but $1000 was used to pay the tax on the $10,000.  All $10,000 is taxable income.

Actually, that is only 10% withholding so if you are under age 59 1/2 then that will only pay the additional 10% early distribution penalty and not the ordinary tax on the $10,000.  If you are in the 20% tax bracket then you probably should have had 30% ($3,000) withheld for tax.

[DIY_Tax_Person]

For my 2018 Return, TurboTax doesn't even allow me to enter numbers onto the 5329 form. It's greyed out and doesn't respond to typing in numbers in the fields. However, if I change the code from 2 (early distribution - exception applies) to 1 (early distribution - no known exception), then my taxes go up in those real-time state and federal windows.

For 2019, in TurboTax, whether I enter numbers into form 5329 or not, the taxes due to federal and state are the same. The tally seems to be solely dependent on the distribution code (1 or 2).

[macuser_22]

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@DIY_Tax_Person wrote:

For my 2018 Return, TurboTax doesn't even allow me to enter numbers onto the 5329 form. It's greyed out and doesn't respond to typing in numbers in the fields. However, if I change the code from 2 (early distribution - exception applies) to 1 (early distribution - no known exception), then my taxes go up in those real-time state and federal windows.

For 2019, in TurboTax, whether I enter numbers into form 5329 or not, the taxes due to federal and state are the same. The tally seems to be solely dependent on the distribution code (1 or 2).

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The code on line 2 is calculated value and not directly entered.   It should come from the interview question answers.  But if you are entering it min the forms mode then you enter SEPP amount on line "B" on the 5329 form "Distributions not subject to additional tax" in column A or B depending if it is a SIMPLE or non SIMPLE distribution.