overfunidng above earned income

Submitted by David MAURICE on Thu, 2017-06-29 15:44

Client made a $5500 deposit into his IRA for 2016, but he only had $2694 of earned income in 2016. What is the remedy in this case and is there any way to adjust the IRA form to show the 2016 contribution was $2694 and let the remainder be considered a 2017 contribution?



Submitted by Alan - IRA critic on Thu, 2017-06-29 17:02

  • Assuming no spousal contribution is possible in this situation, client would normally request the return of the excess amount of 2806 adjusted for net income on the excess amount. He would owe tax and penalty on any positive net income for the tax year IN WHICH the contribution was made.
  • He should only deduct (if eligible) the allowed amount. If he does not qualify for the deduction, he should also determine if he is eligible for a Roth contribution and if so recharacterize the 2694 as a Roth contribution after the excess contribution is removed.
  • Another option once he determines the type of contribution he wants (TIRA or Roth) is to recharacterize the entire contribution to that type and not withdraw anything. He can then carryover the excess amount on Form 5329 and apply it to 2017 if eligible in 2017. The downside of this is that he will owe the 6% excise tax on the excess amount for 2016 on a 2016 5329. This usually is not the best choice unless he has very large earnings gains on the contribution. 
  • Therefore, there are multiple options but before doing anything he should review the type of contribution he wants to make with his earned income. Obviously, his earned income is very low, but he might still have modified AGI that is considerably higher. In very low earnings years, a Roth contribution is often the better option if eligible.

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