ROTH IRA excess contributions

[Taxadvisor VA]

TP made an excess ROTH IRA contribution in 2012 $6,000 & 2013 $6,500.

How does the 6% excise tax calculate when it is done back to back years?
- For 2012- 6% tax is $360. I'm good with that calculation.
- For 2013- 6% tax is ??????? Based on the full $12,500? $6,500? He was not withdrawn the funds for either year.

Thanks for your help,

Taxadvisor VA

[EdCEA]

The penalty is calculated

The penalty is calculated on the excess remaining for each year. For 2013 the penalty is 6% of $6,000 plus 6% of $6,500. If not removed by the end of 2014, the 2014 penalty would be the same as for 2013, $360 + $390. Any earnings would stay in the account. If eligible for a Roth contribution, an excess amount can be applied towards the contribution which would remove that amount from the year when applied.

Ed C.

[Taxadvisor VA]

The penalty is calculated

Thanks so much for responding to my ? re: excess Roth IRA contribution.

If TP cannot make a ROTH IRA contribution in the forseeable future, would you recommend taking the money out? I mean $750 per year gets old real quick.

His income is pretty high and unless he decides to retire it appears that he would continue to pay this excise tax year after year.

Thanks Ed for your help.
Best Regards,
Taxadvisor VA

[Koss]

Excise Tax

If TP cannot make a ROTH IRA contribution in the forseeable future, would you recommend taking the money out? I mean $750 per year gets old real quick.

The whole point of the excise tax is to make it so onerous and punitive that no one would even think about leaving an excess contribution in there over an extended period of time.

Even if his investments inside the Roth IRA are yielding 12%, he is probably still better off taking the money out and making the same investment in a taxable account.

The benefit of a Roth IRA is that gains are not taxed at all if they are withdrawn after age 59 1/2. But how many years of gains would he need, and at what rates, to offset the loss of 6% of the principal each year??

BMK

[EdCEA]

Yes, he should take out the excess

Yes, he should take out the excess contributions (no earnings) by requesting a distribution from the custodian, without any explanation for excess contributions. He would pay the 6% penalties for 2012 and 2013 on stand alone Forms 5329 for each of those years. The penalty for 2014 would be paid with his current tax return which will end the penalties. I assume he was not eligible for Roth contributions due to high income. This should not have happened if his tax preparer was aware of Roth contributions which are often overlooked since not reported on the return. If he has earned income he can contribute to a non-deductible traditional IRA if under 701/2 and follow with a conversion to a Roth. If there are substantial traditional IRA's the conversion would be mostly taxable. Also he could be assessed interest on the late 6% penalties.

[Gary2]

Do the earnings on the excess contributions need to be removed too?

For that matter, do the earnings on the first year's excess contribution need to be included when calculating the second year's excess contributions?

[EdCEA]

No, earnings do not have to come ot

No, earnings do not have to come out when the withdrawn amounts are subject to the 6% penalty. This is not the same as withdrawing excess contributions by the due date or extended due date. In that case the custodian has to be told you are withdrawing an excess contribution and a calculation of associated earnings has to be made and those earnings also withdrawn