We are taught that saving retirement is something we need to do. So we set aside money to put into retirement plans so that it will grow and we can with withdraw it in retirement to provide for our needs in our golden years, whether that be for traveling around the world, or just staying put in our house that we have paid off.
However, we can only contribute so much to our retirement plans. There are limits to how much we can contribute to the plans our employer provides, as well as to our IRAs and Roth IRAs. If we contribute too much to the IRAs, we face a 6% penalty on the amount we contribute over the allow contributions limits, which for2017 is $5,500 if you are under 50 years old, and $6,500 if you are 50 and over.
Keep in mind that these contribution limits are also subject to phase outs based on the amount of income you earn and your filing status. If you are filing your income tax return as married filing joint with your spouse, and you participate in your employer’s retirement plan, your contribution limit starts to be reduced when your income reaches $99,000, and is eliminated if you make $119,000. So if you make $120,000 in a year, you will not be allowed to make contributions to an IRA. If you do not participate in your employer’s retirement plan, the phase-out starts at $185,000 and is finished at $195,000.
If you filing as married filing separate, your phaseout range is $0 to $10,000 no matter if you are or are not covered by a retirement plan at work.
If you file as single or head of household your phase out range is $62,000 to $720,000 if you are covered by a plan at work, but there is no reduction if you are not participating in your company’s retirement plan.
If you have a Roth IRA, it doesn’t matter if you participated in retirement plan at work or not. The phase out ranges are as follows:
- Married Filing Jointly or Qualifying Widower- $184,000 – $194,000.
- Married Filing Separate and lived with spouse during the year- $0 – 10,000.
- Single or Head of Household or Married Filing Separate and did not live with spouse $117,000 to $132,000.
So what do you do if you made an excess contribution? It is actually very simple. You withdraw any contributions you made plus any interest or other income earned while the funds were a part of your IRA. It really is as simple as a call to your broker. The withdraw is not considered taxable income if made by the due date of your tax return.
Now if you missed the deadline and kept the funds in your account past the tax return due date then made the withdraw, the amount withdrawn is considered taxable income. However, the withdraw is not considered taxable income if you meet both of the following conditions:
- Your total contributions outside of rollovers is not more that the allowed contribution amount for the tax year.
- You did not take a deduction for the excess contribution being withdrawn.
If you do nothing and keep the excess contributions in the account, you will owe the 6% tax. However, if you under contribute to your IRA by the amount of the excess contribution in the following year, you will not owe tax in that year.
Do you have questions about excess IRA contributions? Drop me a line at firstname.lastname@example.org, and I would be happy to answer them. If you need help with other tax questions, or with preparing a return, drop me a line, and we can discuss your situation.
In accordance with Circular 230 Treasury Department Regulations, I am required to advise you that any tax advice contained in this article may not be relied upon to avoid penalties under the Internal Revenue Code. If you are interested in a written opinion that can be relied upon to prevent the imposition of tax-related penalties, please contact the author.