How to remedy a series of errors with SEP IRA contributions

Submitted by Marina Ferrone on Mon, 2020-07-27 21:36

Taxpayer deducted the following SEP IRA contributions on the following returns:

2017 – $4,000
2018 – $7,000
2019 – $4,000

– Custodian applied the $4,000 contribution made on 9/14/18 to tax year 2018 but intended for tax year 2017 by taxpayer
– Custodian applied the $7,000 contribution made on 8/15/19 to tax year 2019 but intended for tax year 2018 by taxpayer

In all tax years, the maximum allowed contributions are more that the above flat stated amounts. Taxpayer elected to round the contributions to flat numbers. The custodian thinks this is a traditional IRA and applied the contributions to the year received since it they were both post April 15th.

Now we have a 2017 return that has a $4,000 tax deduction with no contribution applied for that tax year; the 2018 return has an overstated deduction of $3,000 and 2019 return is over funded by $3,000.

Additionally, the taxpayer recently sent sent in $4,000 recently (2020) to be applied to tax year 2019 and the custodian is saying that 2019 is already funded.

What a mess?



Submitted by William Tuttle on Tue, 2020-07-28 02:57

This is a mess, but how messy and expensive to correct depends on the specific facts and circumstances.

  • What do you mean by the custodian “thinks” this is a traditional IRA? The custodian “knows” whether an account is a SEP IRA or traditional IRA by which account type the account owner opened. If the account owner opened a traditional IRA and didn’t adopt a SEP IRA plan and open a SEP IRA, it is a traditional IRA. The following assumes this is in fact a traditional IRA account.
  • While you can make traditional IRA contributions to a SEP IRA if;
  • the custodian supports traditional IRA contributions in a SEP IRA and
  • the SEP IRA account owner declares them as traditional IRA contributions
  • You can NOT make SEP IRA contributions to a traditional IRA. If this was a traditional account, IRA these are traditional IRA contributions regardless what the taxpayer intended and regardless of the “Self-employed SEP, SIMPLE, and qualified plans” deduction claimed.
      • As traditional IRA contributions
      • The first $4,000 is a 2018 traditional IRA contribution.
      • The $7,000 is a 2019 traditional IRA contribution.
      • The second $4,000 is either a 2019 excess contribution or if the custodian is so inclined can be treated as a 2020 contribution
    • To the degree these were excess traditional IRA contributions in any year because of the rounding, they should be treated as excess contribtutions. However, if married spousal contribution rules may allow the full amount.
    • Are the taxpayer and their spouse if married active participants in an employer retirement plan. Continuing the assumption that the taxpayer has not made SEP IRA contributions, they are not an active participant based on the traditional IRA contributions. They would only be an active participant with regardless to an employer retirement plan of an unaffiliated employer.
    • Standard rules apply to deductibility of the traditional IRA contributions.
    • The bottom line. If these are traditional IRA contributions, 2017, 2018 and if filed 2019 tax returns would have to be amended to remove the SEP IRA deduction.
    • To the degree there are excess contributions for 2017 and 2018, Form 5329 would have to be filed for each year, with a 6% excise tax dues on the excess amount which would accumulate and carry forward into 2019. 2019’s contribution limit would need to be adjusted by the amount carried forward and any excess contributions and earnings removed by the extended due date (10/15/2020). A 2019 Form 5329 would have to be filed relecting the reconciiation of the excess contribution balance with available contribution space. Any excess contribution for 2020 would have to be removed with earnings.
    • Then to the degree deductions are allowed for the 2018, 2019 traditional IRA contribtions, the returns would need to be amended/filed with those deductions.
    • Any 2018 non-deductible amount would have to be reported on a 2018 Form 8606 to track the non deductible basis. Any 2019 or 2020 non-deductible amount could be removed with earnings by the respective extended due date (10/15) or reported a 2019 or 2020 Form 8606 to track the non deductible basis.

      • If in fact the IRA custodian is wrong and this really is a SEP IRA. Then the custodian does not determine the year of contribution, the taxpayer does by which year they take the deduction. This assumes the filed for an extension each year. Otherwise the entire contribution would be an excess contribution. If they did file the extensiona and the IRA custodian acknowledges this is a SEP IRA then you still have the excess contributions by the rounding up to even thousands (who would think that was ok?). That is whole other different mess

      Submitted by Alan - IRA critic on Tue, 2020-07-28 04:48

      Adding to the mess – the custodian may not understand 5498 reporting, but the IRS will be at least partially guided by those forms. On a 5498 the custodian indicates whether a contribution is a SEP contribution or a TIRA contribution. SEP contributions are reported for the year IN WHICH the contribution is made regardless of which year the taxpayer chooses to deduct it, but a TIRA contribution is reported for the year in which the taxpayer indicates it is for in situations where the contribution is made from 1/1 to 4/15 and could be assigned by the taxpayer and custodian to either the current year or prior year.  Occasionally, certain messes become so bad, it is better to just wait to see what the IRS comes up with and hope it isn’t too bad.

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