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The Costliest Retirement Funds Mistake You Should Avoid by Nick Hodges

Receiving an unexpected IRS tax bill is always disconcerting. When that bill is in an amount over $10,000 and declared due within 30 days, it is often cause for panic. One of the most common ways for this to happen is when an IRA or retirement account is incorrectly moved to another IRA or retirement account.

John and Jane Smith are long-time tax clients in their late 80's that live near our main tax office in Fullerton, CA. They worked hard all their lives and retired on Social Security income and a small retirement investment. I meet with John and Jane each year to complete their tax return. I work hard to make sure that John and Jane do not have any tax surprises.

John and Jane work with a separate financial planner for their investment advice. This financial planner reviewed their retirement account and suggested they change the investment type to something that would better suit their needs. His suggestion was actually a good suggestion. His implementation of that suggestion triggered a huge tax bill from the IRS that required our involvement and a month of worry for the Smiths.

In the middle of tax season this year, John and Jane received a letter from the IRS declaring they owed $12,500, due in 30 days. To them, this amount was almost all their income for a year. If this bill was accurate, paying it would cause them substantial financial hardship. They were so distraught, they drove directly to my office with that tax notice in-hand. They waited patiently as I finished another tax appointment, but they were visibly shaken and on the verge of tears when I escorted them into my office.

When I sat down with them, they told me the story of the retirement account changes they made last year with their trusted financial planner. But their trusted financial planner did not tell them that this would happen; he told them that everything would be fine.

After hearing their story, I knew that their financial planner had made one of the most common mistakes in changing retirement account investments. In short, the financial planner took a paperwork shortcut to move the money between IRA accounts. Based on the reporting that this shortcut produced, the IRS viewed the transfer as a taxable transaction. This kind of mix-up is easily prevented by filling out the proper paperwork when initiating the transfer process. By trying to shortcut the transfer, he had generated an additional correspondence process with the IRS and substantially upset the client with unnecessary worry.

At the end of our meeting, I told John and Jane, "I know this is scary, but this is not beyond fixing. I will take your paperwork and stay late tonight to put all the pieces together for you. Tomorrow, I will call your financial planner, and I will prepare the documents needed to fix this with the IRS."

I talked to the financial planner; I talked to the IRS, and I updated John and Jane every day. They were still worried and waited by the phone for my updates. Within a few days, we sent off a large response packet documenting to the IRS that what had been reported as an IRA distribution was actually a qualified rollover to another IRA account. I explained to John and Jane that the rest was in the hands of the IRS processing center.

About four weeks later, the Smiths received a response from the IRS indicating that their bill was reassessed. The reassessment determined that they were now due a refund of $1 (yes, one dollar). John and Jane were completely relieved.

Although the financial planner had provided a good investment suggestion, the incorrect implementation of that suggestion felt like a complete disaster to John and Jane. They were confused, scared, and wished they had never made a change to their retirement account. They told me that the mental stress they had been through for the past month was not worth it.

The Smith's situation is a perfect example of the value of keeping your tax professional informed of all your financial decisions BEFORE you implement them. Making changes to your investments, retirement and otherwise, can substantially impact your tax picture. Even though we were able to fix the Smith's unique situation, very few tax errors can be fixed after the fact. Avoid a huge tax bill surprise and keep your tax professional involved in all your financial decisions.

Copyright (c) 2009 Nick Hodges

Nick Hodges, President of NCH Wealth Advisors, provides US expatriates with the best tools, strategies and planning techniques to help expats manage their tax and financial goals and dreams on a day-to-day basis regardless of their location. To claim your free gift, ExPat Life Portfolio Kit, visit his site at ExPatCFO.com

Article Source: http://www.earticlesonline.com/Article/The-Costliest-Retirement-Funds-Mistake-You-Should-Avoid/562020

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