OK, let's see if I got this straight.
You say that you withdrew the excess from 2016 in 2018. However, the carryover persisted and you were still paying 6% penalty on the carryover even up to 2019.
The problem is that in 2018 that you could not withdraw the 2016 excess in the manner prescribed by the IRS.
That is, you may withdraw the excess for a tax year up until the due date of the return. Therefore, when you did the withdrawal of excess contributions in 2018, you were able to properly withdraw the excess created in 2017, but not the excess created in 2016, because the due date of the 2016 return was April 2017.
No doubt part of the confusion is that you did contact the HSA custodian and withdraw the money; however, for the 2016 return, that was not permitted under the rules as it was past the due date of the 2016 return.
When you withdrew the 2016 excess in 2018, what you could have done is this: declare that the amount corresponding to the 2016 excess was not a distribution for qualifying medical expenses. That would have generated the excess as Other Income and the 20%, but that would have been the end of it.
Let me repeat, you "withdrew" the 2016 in 2018 but since it was not according to the rules set up by the IRS governing HSAs, it didn't count. It would have been cut off if you would have declared that withdrawal (the 2016 "withdrawal", not the 2017 withdrawal which was OK) to be not for qualifying medical expenses, because the 2016 excess would have been added to Other Income and the 20% penalty added.
Yes, this means that you could amend your 2018 return, take the hit in 2018, then the issue would be moot for 2019.
If you do this, then you do not have to withdraw the excess again. If you took the money in 2018, then the fix involves paying income tax and a 20% penalty in 2018.
**Say "Thanks" by clicking the thumb icon in a post
**Mark the post that answers your question by clicking on "Mark as Best Answer"
