The reason that the numbers are laid out like this is because before your W-2 was printed by your employer, the code W amount in box 12 on your W-2 was removed from Wages in boxes 1, 3, and 5. That is, this code W amount was not taxed.
However, if part of the code W amount is in excess, then you can't get any tax benefit from that excess. So the excess is added back to your income on line 8f on Schedule 1 (1040).
This happens automatically whether or not you withdraw the excess. The penalty on the 5329 is only if you carry the excess over to next year.
@Jonwang789
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