Dependency, Filing Status, and Income Documents
Retirement Income: A Closer Look
Disability Pension Income, Box 7 Code 3
A taxpayer may take a retirement distribution if they become disabled before reaching the retirement age for their job (varies from 59 1/2 – 65). This is considered disability pension income and is considered earned income, and should pull through to line 1 of the tax return for wages and salaries. There is a simple entry in TaxSlayer we will need to make for this to occur.
Rollover: Distribution Code G
A rollover is a tax-free distribution to the taxpayer from one retirement account (traditional IRA or
employer’s pension plan) that rolls over into another qualified retirement account within 60 days.
Form 1099-R will be issued to the taxpayer by the financial institution. If the distribution was a direct rollover
by the institution to another institution, it will show distribution code G. If there is also a taxable amount in
Box 2 of the 1099-R, the distribution may be partially or fully taxable. If the taxpayer indicates that a rollover occurred but the distribution code is NOT G, then the taxpayer must have re-deposited the full amount into an appropriate account within 60 days.
Early Distribution: Code 1
Taxpayers who take money out of their retirement account before reaching the retirement age may be subject to an additional 10% penalty on their retirement distribution. In general, if code 1 is listed on Form 1099-R the taxpayer will be required to pay the 10% penalty unless they meet one of the exceptions listed below. If a taxpayer meets one of the exceptions listed, we will need to complete Form 5329 in the tax software.
A coronavirus-related distribution is not subject to the 10% additional tax on early distributions. A distribution is considered coronavirus related if:
• is diagnosed, or whose spouse or dependent is diagnosed, with the virus SARS-CoV-2 or the coronavirus disease 2019 (collectively, “COVID-19”) by a test approved by the Centers for Disease Control and Prevention OR
• experiences adverse financial consequences as a result of the individual, the individual’s spouse, or a member of the individual’s household (that is, someone who shares the individual’s principal residence)
Required Minimum Distributions
Once an individual reaches a certain age, they are required to take distributions from their retirement account. Congrees recently passed legislation increasing the RMD age, and taxpayers may choose to delay their first RMD until April 1st the year after they turn 72. This will rarely impact how you prepare a return at a VITA site, but it is helpful for completing the certification exams.
The required minimum distribution (RMD) age is 72 for taxpayers turning 70 ½ after December 31, 2019. In other words, if a taxpayer’s 70th birthday is July 1, 2019 or later, they do not have to take withdrawals until reaching age 72.
For those who were age 70½ or younger on Jan. 1, 2020, their first RMD is not due until April 1 of the
year after they turn age 72. For example, for those who turn 72 on July 1, 2021, they must take their
first RMD (for 2021) by April 1, 2022, and their second RMD (for 2022) by December 31, 2022.
Calculating the Simplified Method: Box 2a Blank, Box 9b Completed (Advanced Certification)
Some taxpayers may have a Form 1099-R with a blank in box 2a, which lists the taxable amount of the retirement distribution. Typically, this means the distribution amount in box 1 will become fully taxable, and we will enter that amount in the tax software. However, there is a key exception if the taxpayer has an amount in box 9b, employee contributions. These taxpayers take a small amount of their distributions tax-free each year, and it is up to us as the tax preparer to calculate the appropriate amount.
When there is an amount in box 9b and no amount in box 2a, we will need to calculate the simplified method using the following method:
- The cost in the plan (total employee contribution on Form 1099-R, box 9b)
- The taxpayer’s age on the date the annuity began (and the spouse’s age if joint/survivor annuity is selected); note if the annuity starting date is before or after the taxpayer’s birthday for that year
- Total of tax-free amounts from previous years, available from the taxpayer’s prior year worksheet
- Often times, this amount is not accessible; there are online tools you can use to calculate the previous amounts recovered.