For qualified retirement plans with a start date after July 1, 1986 and before Nov. 19, 1996, the taxpayer could have chosen to use either the simplified method or the general rule for determining the taxable portion of the retirement benefits distributed.

When a taxpayer who qualifies to use the simplified method receives the 1099R with nothing in Box 2 (Taxable Amount), the taxpayer must figure out the taxable portion. If some contributions to your pension or annuity plan were previously included in gross income, you can exclude part of the distributions from income.

You must figure the tax-free part when the payments first begin. The tax-free part generally remains the same each year, even if the amount of the payment changes. However, the total amount of your pension or annuity that you can exclude from income is generally limited to your total cost.

One big error that occurs when a taxpayer prepares his/her return and uses a software to file the tax return. The taxpayer will leave the taxable portion of the retirement benefit blank, therefore not reporting any taxable income from the retirement benefits. This causes the income to be under-reported and usually will trigger an IRS audit.

For qualified plans with annuity start dates after Nov. 18, 1996, the simplified method must be used if one of the following is true:

• Participant is under age 75 on the annuity start date, or

• The participant is entitled to less than five years of guaranteed payments.

Nonqualified plans cannot use the simplified method.

Figuring the taxable portion of a retirement distribution when Box 2 is blank is done by following these steps:

Using the 1099R to get the information

1. Enter total pension or annuity payments received during the year. (Box 1)

2. Enter the cost basis in the plan as of the start date. (Box 9b)

3. Enter the appropriate number from the tables. (Found in Publication 575) For an annuity that is payable over the life of the retiree, this number is based on the retiree’s age on the annuity starting date and is determine by a table.

4. Divide line 2 by line 3.

5. Multiply line 4 by the number of months for which the year’s payment were made. If the start date was before 1987, enter this amount on line 8 and skip line 7, 10 and 11.

6. Enter cost basis previously recovered tax free in years after 1986

7. Subtract line 6 from line 2

8. Enter the smaller of line 5 or line 7

9. Taxable amount this year.

10. Add line 6 and line 8

11. Balance of cost to be recovered. Subtract line 10 from line 2.

If Box 2 of the 1099R has an amount in it, this amount has already calculated the taxable portion of the retirement benefits. Do not use the simplified method to determine the taxable portion.

Tracy Bunner is an enrolled agent and tax preparer with an office in Harrisville. She can be reached at 801-686-1995 or at tracy.bunner@hrblock.com.