Comments on: Undoing Roth IRA Contribution Mistakes

By: patsy

patsy — Sat, 23 Jan 2010 03:34:59 +0000

I was 70 in 12/08. I have been converting my tradional iras into roths for the past 5 years and paying income tax when I filed. Last year, I made 2 such transfers to my roth. and planned to pay taxes when I filed in 2010. However, because of the additional tax of the 2nd one, I wanted to change that one back from roth to traditional. If I do this before filing taxes this year (2010) will the tax still be due for the 1 I am recharacterizing back to traditional?

By: Joe

Joe — Fri, 06 Feb 2009 03:25:04 +0000

What if you don’t have enough income to contribute to a Roth but earned a large fellowship? I contributed the 5000 max to my Roth but found out that the fellowship does not count as earned income.

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

By: Jason

Jason — Tue, 25 Nov 2008 21:55:21 +0000

I think I’m going to have to pull some amount out for my over contribution in 08. However, I do not have any earnings on these contributions as the market is getting slaughtered. Do I still have to pay the 10% penalty?

By: nickel

nickel — Mon, 10 Mar 2008 17:48:36 +0000

Contribution information is reported on a form that comes after the tax deadline (by the end of May, I believe). The reason for this is that you have up until taxes are due to make contributions, so that information can’t be reported until afterwards. I think that it’s Form 5498, but I’m not 100% sure.

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…

By: CuriousGirl

CuriousGirl — Mon, 10 Mar 2008 17:35:49 +0000

I too am curious to know how the IRS knows if you have made excess contributions to a Roth IRA. Does the IRS have to audit you to catch this? Does the IRA custodian report your annual contributions to the IRS? Thank you.

By: D R

D R — Wed, 05 Mar 2008 04:07:55 +0000

HB,
Just roll your Roth IRA to somewhere else, DON’T cash it in. Then let the new firm manage your Roth, or better yet, pick a great mutual fund and do it yourself (e.g. open a Roth IRA at Schwab or other online trading sites).

Hope that helps!
D R

By: Heather

Heather — Mon, 11 Feb 2008 20:44:06 +0000

Question Please.

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

By: P. F

P. F — Sun, 13 Jan 2008 23:45:14 +0000

how do i calculate the earnings of my excess contribution? my income is over the limit and i made a monthly contribution to my roth IRA. I had them stop it the moment i realized my income will go over, but i already put in $2250.00 by end of sept. 2007. i have the form for excess contribution but i’m a bit confused on how to go about withdrawing the excess contribution plus earnings. Please advise.
P.S
I also have a 401k in which i’ve contributed the allowed amount.

By: trustella

trustella — Wed, 28 Mar 2007 22:36:55 +0000

Thanks for this very informative and complete post! I found I was in this situation after getting a company bonus so I recharacterized to a traditional non-deductible IRA. Now I’m just not sure how to record this recharacterization properly in Quicken. Anyone have experience with this?

By: nickel

nickel — Wed, 07 Mar 2007 11:31:30 +0000

tkduke: Probably, but you’ll need to contact your Roth IRA custodian to know for sure.

By: tkduke

tkduke — Wed, 07 Mar 2007 03:42:10 +0000

If I made a Roth IRA contribution in 2007 and erroneously designated it as a 2006 Roth IRA contribution, can this be changed back to be designated as a 2007 IRA contribution?

By: bubbleboy

bubbleboy — Mon, 19 Feb 2007 01:08:41 +0000

Thanks for the comment mike. Does anyone know how the IRS enforces this provision? For instance, what if you contributed your 4000 to your roth and then forgot that you went over the limit. Who catches you? Does the IRS have to audit you to catch this or will charlesschwab (or whoever else) tell the IRS how much you contributed?

By: Mike

Mike — Tue, 09 Jan 2007 06:10:17 +0000

I’m facing this situation for the 2006 tax year – I contributed the full amount to a Roth IRA early but bonuses at the end of the year reduced my eligibility.

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!

By: Cindy

Cindy — Fri, 10 Nov 2006 12:34:36 +0000

This happened to me for 2005 tax year. I followed the instructions in Pub 590 on http://www.irs.gov. The part about calculating the earnings on the excess portion seems a little loose, but I just documented my rationale and crossed my fingers. So far no love letters from the IRS. IMHO the paperwork was a hassle, and I’ll avoid this issue at all costs going forward. Since there aren’t restrictions on the number of contributions – only the $$$ – I’d recommend making a conservative contribution early in the year and fine-tuning it in 4Q.

By: J

Thu, 09 Nov 2006 03:10:42 +0000

I’m the poster who asked nickel and there’s no way to ask for our paychecks to be delayed. We’re salaried workers with DH getting a signing bonus on December 5th every year for 4 years, counted as income because it’s company stock gifted, so depending on the stock we’re in trouble. Good thing, stock up 20%, bad thing, puts us on the bubble.

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?

By: Foobarista

Foobarista — Wed, 08 Nov 2006 23:36:54 +0000

I’ve had to deal with this for the past couple of years. The Roth limits are “modified adjusted gross income” (MAGI) limits, so the only way to fiddle them is by somehow deferring income and/or by maxing out something like a 401K. Tricks that drive up itemized deductions like prepaying property taxes won’t help since they don’t affect MAGI.

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.

By: Frugal Frugalson

Frugal Frugalson — Wed, 08 Nov 2006 16:28:36 +0000

I have to admit that I’ve always found the handling of excess contributions to be pretty confusing.

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!!!!

By: Alex

Alex — Wed, 08 Nov 2006 14:28:54 +0000

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