Roth IRA

[dmertz]

1.  The earnings generally just stay in the Roth IRA.  The 6% penalty is essentially to offset the benefit of being about to leave the earnings in the account.  If the $1,250 contribution was your daughter's first Roth IRA contribution, I'm not sure that the IRS has provided clear guidance on what should be done when the entire balance in the individual's Roth IRAs is based on excess contributions.  Now that your daughter has been able to make a permissible Roth IRA contribution, I would not worry about the earnings that stayed in the account 

2.  That's all that's necessary to eliminate bring the excess-contribution penalties to an end.

3.  There is nothing to report.

4.  No.  This code-J 2022 Form 1099-R is reportable only on your daughter's 2022 tax return.

With regard to the rest of the questions, I think there is a better way to deal with this, so I'll skip the rest of the questions.  Absent a substantial investment gain in 2021 on her 2021 contribution, what should have happened was for your daughter to request a return of an additional $1,250 of her contribution for 2021.  This would have made room to apply the $1,250 excess from 2020 as part of her 2021 contribution, eliminating the 6% penalty for 2021.  This can still be done since the March 4, 2022 regular distribution can still be rolled over back into her Roth IRA within 60 days.  (This rollover would count toward the one-rollover-per-12-months limitation.)  I would consider making the return of contribution of $1,250 of the 2021 contribution first, resulting in a distribution of $1,250 plus attributable earnings, then rolling over the March 4 distribution before May 3, 2022.  Like the first return of contribution, the attributable earnings distributed will be subject to income tax and a 10% early-distribution penalty on the 2021 tax return.  (If the gains are substantial, though, say, 30% or more, it would probably be better to leave things as they are and pay the 6% excess contribution penalty for 2021 as it stands now.)

[Chris_99]

THANK YOU so much for your kind help!

To summarize for 2020, that was her first Roth IRA contribution($1250) for life.  Now we pulled it all out on 3/4/22.  To file her 2020 return, she only needs to file 1040 with no income (no interest), no deduction on it, form 5329 with a $75 penalty, and we will mail a check.  That will be all for tax year 2020.

I really appreciate you attempting to help us not paying $75 for 2021.  Your approach is so fancy, and I don't know if I truly understand it after several times of reading over your message.  Our goal is just to wrap this up as simply as possible and put it behind us.

FYI, this is the Vanguard info about the Roth account balance:

12/31/20, balance $1278 (contributed $1250 on 12/11/20)

12/31/21, balance $8236 (contributed $6000 on 7/8/21)

What should we do?

[dmertz]

Leaving things as they are with the March 4 distribution used to satisfy the excess contribution, I'll address the remaining questions that you posed earlier:

5.  Correct.

6 and 7.  Since the return of $3,398 of the contribution made for 2021 occurred in 2022, you'll need to enter the code JP 2022 Form 1099-R as if your daughter has already received it, making sure to tell TurboTax, when asked that its a 2022 Form 1099-R.  It will show in box 1 $3,398 plus earnings and in box 2a just the earnings.  TurboTax will include the earnings on Form 1040 line 4a and on Form 5329 line 1.

8a.  "Enter Prior Year Roth IRA Contributions" is asking for the amount of contributions made for years prior to 2021, $1,250.

8b.  "Enter Excess Contributions (Your Excess Roth IRA Contributions for Prior Years )" is asking for excess contributions made for years prior to 2021, again $1,250.

8c.  "Contributions Withdrawn Before the Due Date 4/18/22" is asking in regard to contributions made for 2021, $3,398 only.

The rest of your answers to TurboTax's questions are correct.

[Chris_99]

Thank you, that worked great!

Quick clarifications

1. You wrote "6 and 7.  Since the return of $3,398 of the contribution made for 2021 occurred in 2020..." but did you mean to say "occurred in 2022?"
2. How to create a 1099-R, I am having the desktop version.

Thanks!!

[dmertz]

Yes, I meant 2022.  I've corrected that.

[Chris_99]

Never mind, I found the 1099-R interview page.  Thanks!

[Chris_99]

@ dmertz, thank you so much for your generous help. I "assume" $3398 has $1000 gain.  Here are my entries on 1099-R

1. 4398

2a. 1000

2b. which box to check?  "total distribution"

3. Capital Gain (included in box 2a). ???

4. Federal income tax withheld:  0 (vanguard didn't withhold fed or state)

5. employee contribution:  ???

6. net unrealized appreciation:  ???

7. select codes: J - early distribution from a Roth IRA

                             P - return of contribution taxable in 2020 (should it here be 2021?  or it implies the return of $1250 contribution)

the rest of boxes all unchecked.

The next page is "based on the code you entered in box 7, you are paying extra tax on this money", I click "continue"

Which year on form 1099-R?  A: 2022

Before this 1099-R entry, her Fed tax due was $471, now it jumps to $622.  I sort of understand your earlier suggestion of moving $1250 plus earning from 2021 out, and roll back 2020's $1250 for year 2021...

Anyway, are the above entries for 1099-R correct?  

Thank you so much for your time!

[dmertz]

All seems good with the 2022 code-JP Form 1099-R that you propose.  No need to mark any 2b boxes.  Nothing goes in boxes 3, 5 or 6, they never apply to distributions from Roth IRAs.  Good that no taxes were withheld; it's usually a mistake to have taxes withheld on a return of contribution.

A $151 jump in tax liability seems a bit high unless her taxable income ends up being a bit above the standard deduction and about half of the $1,000 of earnings falls in the 10% tax bracket.

One thing I didn't think about until now, the $1,250 regular distribution will reduce dollar for dollar the amount of 2022 retirement contributions considered for the Retirement Savings Contributions credit she might otherwise be eligible to receive on her 2022 tax return.  That's not a problem if she ends up contributing more than $3,250 for 2022 since the credit is calculated on a maximum of $2,000 of contributions or if she doesn't have enough tax liability to be able to get all of the credit in the first place (it's a nonrefundable credit), but it's something to consider.  Doing the rollover of the $1,250 and a return of $1,250 more of the 2021 contribution to make room to apply the $1,250 excess as a 2021 contribution would entirely eliminate that potential concern.  Still, with about 30% investment gain, rolling back the $1,250 attributable and doing a return of $1,250 of the 2021 contribution probably does not make sense (unless it might mean the loss of a substantial amount of Retirement Savings Contributions Credit for 2022).

[Chris_99]

Thank you, thank you and a big thank you!

Box 7, P - return of contribution taxable in 2020 ($3398 should it be a return taxable in 2021?  or it implies the return of $1250 contribution?). I am confused here.  Is P the correct code?

You are right, her AGI is higher than her deduction.

We don't fully understand the 3rd paragraph.  After seeing her first ever earning of $2800 shrinks down so dramatically, she wants to try your fancy advise.

To make things more complicated, she contributed $6K to Vanguard on 2/25/22 for 2022 Roth.  She asked if this is action list.

1. Take out $6K from 2022 Roth.

2. Transfer $1250 plus earning from 2021 Roth to 2022 Roth. Is it called "rollover" or just transfer 2021credit to 2022?

3.  Transfer $1250 from her bank to vanguard 2021 Roth.  This is a rollover but how does IRS or Vanguard knows it's a roll over from 2020 Roth?

Above plan will introduce two "rollovers", which is not allowed, correct?  So "step 2" should be "transfer $1250 plus earning from 2021 Roth to her bank account".  If this is the case, should we just don't do "step 1" and leave it for now?

$1250 generate about $165 earnings if I did it correctly, so far off from your 30% gain concern.  The question is

1. do we have time to figure out all the correct earnings before 4/17?

2. if we do our dumb $75 penalty way for 2021, it will eliminate her chance of contributing 2022 Roth?  She asked how much she needs to make to be able to contribute to 2022 Roth?  Like above $3250 W-2 salary?

Thank you so much for your kind replies, we are truly grateful!

[dmertz]

Code P means taxable in the year immediately prior to the year of the Form 1099-R.  TurboTax's text in the selection box assumes that you are entering a 2021 Form 1099-R, but you are entering a 2022 Form 1099-R.

1.  Her contribution for 2022 is unaffected.  No need to do anything with regard to 2022.

2.  She would receive a return of $1,250 of her 2021 contribution with the distribution adjusted for earnings.  What she does with the money is up to her, it's just cash at that point.  This particular distribution would not be eligible for rollover but she can use her cash to fund the rollover of the March 4 distribution (the only distribution eligible for rollover) or she could use the cash to fund part of her 2022 contribution if she has not already contributed the full $6,000 for 2022.

3.  Vanguard would know it's a rollover contribution because you would tell them it's a rollover of a regular Roth IRA distribution that was made on March 4.  Nothing needs to be mentioned about its original intent to be a correction of the 2020 excess contribution.  Mentioning that would only potentially confuse them.

Regarding the investment gain, I had used the $1,000 figure that you had mentioned in conjunction with the return of the $3,398, but perhaps you just mentioned $1,000 as an example an not the actual gains attributable to the $3,398 returned.

Regarding the second set of questions:

1. The deadline for rolling over the March 4 regular $1,250 distribution is May 3, 2022.  As long as she files her tax return timely or submits a filing extension request (Form 4868), the deadline for obtaining a return of contribution is October 17, 2022 (but it makes sense to do it by the regular filing deadline, April 18, 2022).

2.  Leaving things as they are won't affect the amount that she is eligible to contribute to an IRA for 2022. 

Disregard anything I said about the Retirement Savings Contributions Credit.  If you claim her on your tax return or she is a full-time student, both of which seem almost certain, she does not qualify for this credit.

[Chris_99]

Thank you again for your clear and kind explanations!

For tax year 2020, we already claimed her as a dependent, when filing her tax, she will choose "I can be claimed, and someone will claim me", she was 16 in 2020.

For tax year 2021, we will NOT claim her as a dependent, when filing her tax, she will choose "I can be claimed, but no one will claim me".

Here is our plan:

1. call Vanguard today, take out $1250 plus earning from her 2021 Roth

2. Once her 2021 Roth contribution changes from $6K to $2602 (6000-3398), then to 1352 (2602-1250), call Vanguard, tell them my daughter wants to rollover her regular Roth IRA distribution that was made on March 4 to her 2021 Roth

Or step 1 and 2 can be done the same time, vanguard doesn't care if she has already received her March 4 distribution.  Does "distribution" mean $1250 or 1250 plus earnings?

Thank you so much for guiding us through all these troubles!

[Chris_99]

I just checked her Vanguard account, $4668.40 was moved out, does it mean only $20.40 interest related to the $3398? Is it correct? Her 2021 contribution still shows $6K now.

[dmertz]

If $4,668.40 is the total of the regular $1,250 distribution and the distribution for the return of $3,398 of the 2021 contribution, yes, that means that the income attributable to the $3,398 was $20.40.

I don't know if Vanguard show the net contribution for 2021 or not, but it seems that they are just showing the original amount $6,000 contributed and it's up to you to subtract the $3,398 to arrive at the current net contribution for 2021 of $2,602.

[dmertz]

1.  That must be done as a return of $1,250 of the $2,602 contribution for 2021 that remains.

2.  Sounds good.  (If Vanguard for some reason declines to accept the rollover because they for some reason associate it with the original intent for the $1,250 to eliminate the excess from 2020, your daughter can always roll the $1,250 to an IRA at a different IRA custodian.)

1 and 2 can be done together if it doesn't confuse the Vanguard rep.  Confusion could lead to something being mishandled and some sorts of transactions can't really be undone if done wrong.  The rollover of the $1,250 March 4, 2022 distribution means that your daughter will not be able to roll over any other distribution made before March 4, 2023 (although with all of this resolved it seems that there will be no need to do such a rollover).

The $1,250 distribution on March 4 was just a regular distribution, no earnings involved.  The rolling over the entire distribution would deposit $1,250 back into the Roth IRA.

For the separate return of $1,250 of the 2021 contribution, the amount that is distributed will be adjusted for investment gain or loss while that portion of the 2021 contribution was in the account.

The end result is to be as if your daughter had originally just requested a return of $3,398 + $1,250 = $4,648 of the 2021 contribution (and no other distribution), ignoring the slight difference in attributable income because of the differing date of the return of the $1,250.

I assume that your daughter is still a full-time student (defined as some portion of each of 5 calendar months of the year), so would not be eligible for the Retirement Savings Contributions Credit.

[Chris_99]

Thank you so much for your clear explainations again!  We totally trust your expertise and feel so fortunate to be able to get your help online!

1.  I moved out $1250 from her 2021 Roth online

2.  I called Vanguard, the rep said putting back the March 4th distribution of $1250 to 2021Roth is not a rollover, it's a contribution.  I have to write a check, can't be done online.  I guess I confused him, do I need to open a Roth IRA at fidelity for her now?

BTW, what does this mean "That must be done as a return of $1,250 of the $2,602 contribution for 2021 that remains."

Thank you so much!