…I have been making excess contributions for the past 4 years- completely out of lack of knowledge!!! I did not earn enough to make these contributions. Therefore, they were not deducted from my earned income. I have never received any notification from the IRS indicating this error. Now what do I do?? ***Key point/question: I am under 59.5 and do not want to pay 10% withdrawal penalties, etc. When do they plan on penalizing me, or does it only happen on a random audit basis? Any insight would be helpful***…

I am in a similar situation. Please… I would also greatly appreciate any advice on this matter. With me it was only for 2 or 3 calendar years. Would it just be worth it to wait and see if the IRS catches on and then just pay them the penalty out of regular funds, without withdrawing from the IRA (if permissible)?

You only withdraw the excess contributions for 2009 and earlier. You don’t have to determine any earnings on those dollars.

This, at least, ended up showing my excessive contribution for 2009 on form 5329 line 18. I did have to pay a 6% “tax” on that money, but no 10% penalty.

For my 2010 excess contribution, he showed me one of his tax documents where the IRS says that if you remove the excessive dollars prior to the tax filing deadline, INCLUDING EXTENSIONS, then the contribution is treated as if it had never been made. So you don’t enter ANYTHING on form 5329 line 20.

BUT, you (or your banker) must determine how much (if any) “earnings” you made from the excess contribution, and pay the tax on that in the year you received the money.

So, for example, I corrected my 2010 contribution this year, and Fidelity determined my earnings. The excess doesn’t need to be reported on my 2010 tax forms, and next year I’ll show the “earnings” from that excess as income.

So I’m fine now with my 2009, 2010 and 2011 excessive contributions. I’m just going to wait and see if the IRS contacts me about my 2008 contribution.

Hope this helps someone else out there

Yeah, what do you do if you’ve discovered you made excess contributions in PRIOR years (not the current tax year.) Apparently, the IRS instructions do not address that directly and even the retirement representative at Fidelity is unsure.

{The IRS instructions are for a Traditional IRA and doesn’t address ROTH IRAs directly.}

Can I recharacterize the Roth to a traditional IRA and then transfer the traditional IRA into my existing Roth account?

I would assume that they run an automated check of that info against all returns. Any discrepancies would presumably send up an audit flag. Don’t think for a minute that the IRS isn’t keeping track…

Hope that helps!
D R

I invested $2000 in an Roth IRA in 1998. Here we are in 2008 and my fund is worth $1800+/- or so.

Now, I am 34, not 59 1/2. Can they give me a penalty for early withdrawal since they havent done very well investing for me. It’s a joke.

I’m just finally learning all of this, but am confused how they can penalize me on my principal that i gave them a decade ago.. and the already took tons of fees out?

Thanks
HB

After spending hours online, speaking with the IRS and with tax specialists, I can confirm that there are in fact 2 options for “undoing” the excess contributions:

1.) Recharacterizing the contributions to a Traditional IRA. As stated in the original post, the excess contributions and any associated earnings are directly transferred to a Traditional IRA. Everything is subsequently treated as if you had originally made the contributions directly to the Traditional IRA in the first place.

2.) Withdrawing the excess contributions along with any associated earnings. If this is done before a certain date in the calendar following the tax year of the excess contributions, then the 6% penalty is waived. The excess contributions themselves are therefore not taxed or penalized. HOWEVER, the earnings will be treated by the IRS as a non-qualified distribution and are subject to a 10% penalty (in addition to normal income tax). This fact was confirmed both by an IRS representative and by a tax specialist.

To summarize, then, the IRS penalizes you for making excess contributions and then withdrawing them to correct the problem – even if you make the correction in a timely manner. There’s simply no way to get around the 10% penalty (unless you meet one of the qualified distribution requirements), no matter how “aware” you are of the situation.

This treatment is unfair, IMHO, and underscores the fact that there can be harm in contributing early if you’re on the bubble. If you end up overcontributing, then you’re forced to either recharacterize or take a 10% hit on any earnings before withdrawing them.

Returning to the recharacterization option, remember that in 2010 Congress is set to eliminate the income limits for converting a Traditional IRA into a Roth IRA. This means that someone in this situation can recharacterize the excess contributions into a Traditional IRA for now, wait a few years, and then recovert the Traditional IRA into the Roth IRA in order to end up with the desired result: a Roth IRA without any Traditional IRA.

It’s been both interesting and annoying trying to figure all this out. Hopefully this information can help anyone else in a similar predicament!

The company won’t defer the paycheck, and I get paid once a month in advance, so my December 1st paycheck is for december. We already maxed out the 401k, but that’s the only deduction for MAGI.

How do you calculate the earnings only on that portion of your Roth? And what if you make a mistake?

We did it last year by getting my company to defer my last paycheck until January, by getting my wife’s December self-employment income deferred until Jan, and maxing out my 401K before the end of the year.

If they’re “on the bubble”, they need to do some calculating right now – there’s still time to get under if they need to.

Excess Roth contributions seem like a PITA to unwind to me. Specifically, how do you determine what the earnings are for your excess contribution? And won’t pulling this money out potentially increase your taxable income, which would therefore further decrease your allowed contribution?

Now suppose you didn’t catch your excess contribution. Would the excess contribution just be eaten away at 6% per year until value of the excess contribution becomes zero? Does this impact the allowed contributions in any way? Ahhhhh!!!!

Do you know where I can check actual allowed amount to contribute if you are in between 95-110?