Confusion in 2020 ROTH IRA during the pandemic and unanswered IRS query

Submitted by Ram Iyer on Mon, 2022-07-04 00:01

Hello:

With all the confusion and delays last year in the tax filing dates, thanks to pandemic-related postponements, I forgot to check “prior year contribution” in one of my very late 2020 ROTH IRA contributions. I did not realize it until this year. Now, the custodian is unwilling to change the contribution year as it is too late. My tax advisor said I should not worry since I did not contribute an excess amount to ROTH IRA in 2021.

I am concerned the IRS might treat the $3000 I contributed in 2020 as a 2021 contribution and slap me for excess contribution in 2021, 10 years down the road. Tax advisor seems to imply I did not do that and that 2020 was an odd year and the IRS would understand. Would the IRS slap me with $3000 excess contribution penalty in 2021 or would they see that I contributed $3000 less in 2020 and the two balances out, as in no excess in 2020 and 2021? Would they see 2020 as a pandemic year?

I sent several queries to the IRS and they have not replied back either. I asked them couple of times before filing 2021 taxes.

Thanks



Submitted by Alan - IRA critic on Mon, 2022-07-04 01:56

The IRS will act based on what the custodian reports as contributions and contribution years on Form 5498 for each year. It sounds like what you intended to be a 2020 Roth contribution was assigned to 2021, but since Roth contributions are not reported on your returns (unless you qualified for the Savers Credit in 2020) your 2020 return will still be correct. As long as the additional 3000 in 2021 did not create an excess contribution for 2021, there is no problem here.



Submitted by Ram Iyer on Tue, 2022-07-05 19:15

Hi: Yes, it will create an excess if it is treated that way. My tax advisor says don’t worry. But, it I have to pay a penalty, I do have to worry. Any thoughts or solution?Thanks



Submitted by Alan - IRA critic on Tue, 2022-07-05 20:09

You have a bad tax advisor if they suggest that you ignore an excess contribution. The IRS might be slow to contact you about it, but there is no statute of limitations for excess contributions, and the 6% excise tax plus interest could be added on every year that the excess is not removed. If you either filed your 2021 return on time or filed an extension, you have until 10/17 to request that the excess amount be returned to you adjusted for gain or loss. If you do that, there will be no excise tax, but there will be tax and penalty on the amount of gain on the excess contribution, if any. Due to the negative results in both the stock and bond markets, you more likely have a loss on your excess amount, not a gain.



Submitted by Ram Iyer on Wed, 2022-07-06 20:53

I was not comfortable about what the tax adviser said, but thank you.



Submitted by Ram Iyer on Wed, 2022-07-06 21:23

Would that help me save headaches? Or, do I still need to fill in forms or penalty?



Submitted by Alan - IRA critic on Wed, 2022-07-06 21:40

First, lets be sure you actually have an excess contribution. Is the additional 3000 Roth contribution excess because it brings your total 2021 Roth contributions over 6000, or because your 2021 income is too high for ANY Roth contributions? Did you make any traditional IRA contributions for 2021?



Submitted by Ram Iyer on Thu, 2022-07-07 00:59

Additional $3000 in April 2022 (for prior year) brought the excess 2021 ROTH-IRA, it exceeded allowed ROTH-IRA of $7000 (because of the mistaken contribution during the pandemic). No, I did not contribute to traditional IRA in 2021 nor the income was high enough in 2021 to not allow ROTH. Fidelity said they do not know if I have to fill 5329 although they can pretty much sell and reinvest it to a 2022 ROTH IRA. I will be eligible for ROTH in 2022.



Submitted by Alan - IRA critic on Thu, 2022-07-07 02:08

If you request Fidelity to return your excess 2021 contribution with allocated gain or loss per my post of 7/5, you will not owe the excise tax, but if there are any gains you will owe tax on the gain for 2021 and penalty on the gain unless you are over 59.5. But you probably do not have a gain, more likely you have a loss on the excess contribution. If you have a loss you will not need to amend your 2021 return if you have filed it, and will not need Form 5329 either way. 



Submitted by Ram Iyer on Thu, 2022-07-07 12:51

Thanks Alan:That helps. I thought I have to file 5329 whether there is a loss or gain.Just one query! Fidelity said they will issue a new 5498 next year that shows a 2022 contribution of $3000. How will the IRS know that I withdrew the 2021 excess contribution unless Fidelity issues a new 2021 5498? 2021 tax season has passed?Thanks



Submitted by Alan - IRA critic on Thu, 2022-07-07 13:35

Your corrective distribution of the excess amount will produce a 1099R coded to indicate that the distribution was applied to the excess contribution. That will effectively offset the 5498. If Fidelity indicates that they will report a 3000 contribution for 2022, did you make the other 2022 Roth contribution to a different custodian? 



Submitted by Ram Iyer on Thu, 2022-07-07 14:32

Hi Alan:I have not made any 2022 ROTH IRA contribution yet. I may either fund the remaining allowable ROTH IRA in Fidelity or with some other custodian.That should be fine, I think.



Submitted by Alan - IRA critic on Thu, 2022-07-07 15:44

So if you only made this single 3000 Roth contribution that was assigned to 2022, the only way it would be an excess contribution would be if you will not have earned income in 2022 OR if your  income (technically modified AGI) is too high for a Roth contribution. I understood that your income is not expected to be too high, and you are also thinking about contributing more.  Specifically, WHY do you think this is an excess contribution?  We do not want to remove a contribution when you are not required to. Just because the custodian assigned the 3000 to 2022 does not in itself make the contribution an excess contribution.



Submitted by Ram Iyer on Thu, 2022-07-07 20:39

Alan:Here is the story. I may have confused everyone with the years.(1) I meant to contribute $7000 in tax year 2020 ROTH IRA. However, when making a $3000 contribution (in 2021) for the 2020 Tax year, I did not mark it as prior year. This then became a contribution towards the 2021 ROTH IRA (which I did not realize till recently). (2) Come tax year 2021! I made another contribution of $7000 for tax year 2021 (before April 18, 2022.) Hence, the final $3000 2021 ROTH contribution (which I made on 04/18/2022, on the last day) suddenly looms as an excess contribution for tax year 2021.  It is just pure luck that I deposited the last $3000.00 as a separate fund within my Fidelity ROTH account.(3) So, I have to return this. Does that make sense? Custodian said they can treat this $3000.00 as the excess IRA, withdraw, and deposit it as part of my 2022 tax year ROTH if I give them my okay. This will probably appear next year in the 1099R coded as an excess from 2021 returned and deposited in the 2022 ROTH IRA. Let me know if I make sense.Sorry!



Submitted by Alan - IRA critic on Thu, 2022-07-07 21:00

  • OK – 10,000 in Roth contributions were therefore made for 2021, and you should have received a 5498 about a month age showing that amount. As you indicated, the last 3000 of those contributions is the excess amount. Since that contribution was made in April, you probably have an investment loss in your Roth since the date of contribution. You should request that the 3000 (adjusted for gain or loss) be returned, and that will generate a 1099R as I mentioned above and a 1099R next January which the IRS will see as correcting the excess amount. 
  • If your custodian allows, rather than actually returning the corrective distribution to you, they can apply it as a 2022 Roth contribution, but this will not change the 1099R. Perhaps you can then make the remainder of your 2022 contribution before year end, and that will eliminate the prior year contribution confusion and last minute contributions that can result in errors.


Submitted by Ram Iyer on Thu, 2022-07-07 21:05

Alan:It is a good suggestion to make the contribution before the year end. Sometimes, that does not work but worth a shot.Thanks



Submitted by David Mertz on Thu, 2022-07-07 21:19

  • Note that any gain or loss attributable to the $3,000 excess contribution is calculated over the entire Roth IRA to which the contribution was made, not just the fund that was purchased with the $3,000.  Fidelity will do the calculation of gain or loss.
  • Treated as a contribution for 2022, the amount of the contribution will be the adjusted amount distributed, something more or less than $3,000, so you need to know the exact amount to be able to figure the additional amount that you can contribute for 2022 to reach the contribution limit.


Submitted by Ram Iyer on Thu, 2022-07-07 22:07

Hi:That is a good point. However, I just now told Fidelity to treat $3000 as a contribution for 2022, instead of 2021. Fidelity person did not seem to have any issue with it. He said it will be all set and my 1099R next year will show that. The whole ROTH IRA is taking a beating anyway and so it could be a moot point this time. We will see. I will also closely watch my statement in August and see what they show.Thanks



Submitted by David Mertz on Thu, 2022-07-07 23:24

Since the Roth IRA has overall lost value since the $3,000 contribution, the amount distributed as a return of the $3,000 contribution to avoid the 2021 excess contribution penalty will be less than $3,000 and the amount treated as part of your 2022 contribution will be that lesser value, not $3,000.



Submitted by Ram Iyer on Thu, 2022-07-07 23:41

Many thanks to you and Alan for clarifying.



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