New client- several years of excess Roth contributions (over earnings limit)

Submitted by JEFFREY MACK on Fri, 2019-03-29 23:35

I got a new tax return MFJ clients, and learned that he has made contributions to Roth IRA’s for several years even though his AGI exceeded the limits for making Roth contributions. Is there any way that he won’t be facing years of 6% penalties for each years’ new contributions and on the excess contributions not removed in the succeeding years.? Thank you.



Submitted by Alan - IRA critic on Sat, 2019-03-30 00:24

  • Technically, there is no statute of limitations on excess IRA contributions. Yet you never hear of the IRS levying a decade’s worth of excise taxes. No one knows when they might start. The only correct way to eliminate the excess balance is to start with the first year of excess contributions and complete a Form 5329 for that year and move forward through each successive year. Form 5329 asks if any of the cumulative excess can be applied to the current year for which he was eligible and did not make any type of IRA contribution, and also applies any distributions taken to reduce the excess balance. Now assuming that neither of those occurred, then to end the excise taxes he would have to add up all the excess amounts and have that amount distributed. Earnings are not distributed, just the contributions so there is no income tax due, just the excise taxes. That would reduce the excess to 0 on his 2019 5329. Once he gets up to 2018, he can recharacterize or remove just that year’s contribution including earnings. He could do a back door Roth for his 2018 contribution if he has no pre tax IRA balance, and continue doing those for 2019 and beyond. The back door Roth entails making a non deductible TIRA contribution and then converting it to Roth tax free and this skirts the income limits because there is no income limit on conversions.
  • All these 5329 forms can be filed without a 1040X, just package them up and send to the IRS center for client with the 6% amounts, but if this is going back several years, it will be costly plus the IRS might bill late interest for late payment of the excise taxes. 
  • There is no way to appeal to the IRS to waive these excise taxes. Therefore, the only way he avoids these penalties already incurred is by the IRS continuing to ignore excess contributions. 
  •  The spouse may have the same issues, since both spouse usually make Roth contributions and their income limit is the same and their contributions limits are also the same unless one is 50 and the other isn’t.  Therefore, the spouse’s excess contribution situation should also be assessed.
  • Note that the 5 year holding period for a Roth IRA does not begin with an excess contribution, it starts in the year of the first allowable contribution.

Submitted by JEFFREY MACK on Sat, 2019-03-30 13:26

Thank you Alan. Regarding the undistributed earnings, if no previous allowable Roth contributions had been made, what is the amount left in the account considered to be? Roth? TIRA with no basis?  The taxpayer made no contributions for 2018.  Could he do a Roth conversion on all or part of the earnings remaining in the account? 

Submitted by Alan - IRA critic on Sat, 2019-03-30 17:42

The remaining balance in the Roth are all Roth earnings once all contributions have been withdrawn. To make those earnings qualified a small conversion to Roth from a TIRA would start the 5 year clock which will eventually need to be satisfied for those earnings to be qualified and tax free.

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