over funded Roth IRA
I know the below:
Apply the excess contribution to the subsequent year. If this was a one-time occurrence where your income exceeded the limits but the following year you will be eligible to contribute to a Roth, you can have the excess contribution amount moved to the next year. You will still have to pay the 6% penalty for current year, but you will avoid future penalties. If your income still won’t qualify the following year, this option is not available.
But what about the earnings when you do the above:
a. do you move the earnings over to the next year too without any penalty or is that part of the 6% penaly?
or…
b. do you still take out the earnings in cash and not allowed to move to next year and pay a 10% early withdrawal penalty under 591/2?
Thank you,
Douglas
Permalink Submitted by Alan - IRA critic on Mon, 2022-04-11 21:39
Any earnings just remain in the Roth IRA because the excess amount is not removed, it is just “absorbed” by the following year’s unused contribution space. This is all reported on Form 5329 with the Roth custodian not involved in the process. The excise tax is owed for 1 year, but there is no removal of earnings subject to tax and penalty.
Permalink Submitted by Douglas Bauerband on Tue, 2022-04-12 13:50
You mentioned above that the Roth custodian in not involved, but we have to involve them to move the excess contribution from 2021 to 2022, correct?
Permalink Submitted by Alan - IRA critic on Tue, 2022-04-12 14:35
No. the Roth owner does this themself using Form 5329. The custodian will not reissue their Form 5498 that reported the contribution for year 1, but for tax reporting purposes such as the Roth 5 year holding period, if this contribution was an excess for year 1, and is then applied to the following year on Form 5329, the holding period is treated as starting in the following year. There is no distribution, no 1099R, just the original 5498 that is effectively changed by the taxpayer 5329 to a contribution for a later year.
Now assume that a taxpayer fails to file the 5329, and the excess remains in the Roth and generates a 6% excise tax year after year. Since there is no statute of limitations for excess contributions, the taxpayer can also file 5329 forms year after year to pay the excise tax. Eventually, the taxpayer may have unknowingly corrected the excess, which a correctly completed 5329 will do. Besides absorption by a later year, the taxpayer might have corrected the excess by taking a normal distribution. Taxpayer may even have a situaton where the excess is reduced by both methods in the same year. All they have to do file a 5329 for year after year, and if done correctly the form will show if the excess was reduced or eliminated over time and therefore the excise taxes would stop. While this process sounds complex, Part IV of the 5329 will take care of it, although if there are several years involved, it may take some research to determine if taxpayer was eligible for a regular Roth contribution in any given year they did not make and/or they would have to check their old returns for a regular Roth distribution that was reported on a 1099R.