Correcting Excess HSA Contribution

[btslater]

I have a question regarding excess HSA contributions. My local CPA firm is taking a position that doesn't make much sense to me and I'm looking for another perspective. I had $400 of excess HSA contributions a couple of years ago. I was carrying the excess forward/paying the 6% penalty and I want to eliminate the excess. 

I was under the impression that you can eliminate the excess by applying it to a future year - i.e., if I contribute $400 less than the IRS max in the current year, I effectively eliminate the excess contribution. Form 5329 line 43 suggests that you can do this. 

The CPA firm stated that it doesn't work that way. They stated that Form 5329 is used to calculate the penalty and the excess contribution remains in the account until you actually distribute it/remove it from the account (i.e., the act of contributing less than the max doesn't in itself eliminate the excess). The CPA firm stated that I can deduct the $400 excess in a later year, but this would happen in perpetuity every year until I actually removed the $400 (i.e., every year, the $400 shows up as a prior year excess contribution, I contribute $400 less than the max, and I claim that $400 excess). 

This doesn't make any sense to me. My position is this -- if I contribute $400 less than the IRS limit in the current year and I claim the $400 excess in the current year, this eliminates the excess contribution. It is now effectively a current year contribution and the excess has been eliminated/removed. Is my position accurate?

The CPA firm's position seems illogical to me. From my perspective, it isn't this complicated. If you bust the limit in one year, you should just be able to contribute less the following year. This seems to be the IRS's intent, but I wanted to be sure. 

Thanks! 

Brooks 

[Mike9241 · Accepted solution]

IRS PUB 969 also allows you to deduct the excess contribution in a later year. This means that you made an excess contribution in a prior year, did not take the tax deduction then, left it in your account, and later use that amount as a valid contribution in a later year. You thus receive the tax deduction for that year.

PUB 969 states:

You may be able to deduct excess contribution for previous years that are still in your HSA. The excess contribution amount you can deduct for the current year is the lessor of 1) Your maximum HSA contribution limit for the year minus any amounts contributed to your HSA for the year and 2) the total excess contributions in your HSA at the beginning of the year.

https://www.irs.gov/pub/irs-pdf/p969.pdf page 8

if you undercontribute $400 for a subsequent year that eats up the exeess. it no longer exists so there is no longer a penalty.

[btslater]

Thanks Mike! It sounds like you ultimately agree with my position . If I undercontribute by $400 in a subsequent year, this eliminates the excess and I don't need to do anything else. I appreciate your input! 

[rjs]

Yes, you are correct. The same information that Mike9241 referenced in Publication 969 is also under "Deducting an Excess Contribution in a Later Year" on page 6 of the Instructions for Form 8889.

If I understand it correctly, you have to include the carried over excess amount (your $400) in your total HSA contributions on Form 8889 for the year that you make the adjustment, so you are actually deducting the excess amount in that later year. Your HSA deduction for that year will be the same as if you contributed the full maximum amount and did not have any excess in the account. It's not clear where you are supposed to include the excess amount. You probably just include it in line 2 of Form 8889, but the instructions are not clear about that.

Show your CPA what it says in Publication 969 and in the Form 8889 instructions. If they still won't let you do it, find another CPA.

[Opus 17]

I agree.  The problem is that the "use up in a future year" procedure does not seem to be described in the actual instructions to form 8889, even though other publications and regulations say you are allowed to do that.

You certainly need to pay the 6% penalty for 2022, if you have an excess, and that will go on form 5329.

The alternative would be to remove the excess from the HSA and then contribute the full amount for 2023.  You can remove the excess up to October 15, but if you remove the excess after April 15, you have to file an amended return using a special procedure.

[Mike9241]

in Turbotax it's taken care of automatically. the excess from the prior year is on the carryober worksheet.

the anount you enter on line 2 of the 8889 is only the actual amount contributed for the year excluding the prior year excess.

the 8889 is poorly designred becuase it it doesn't directly show the excess being utilized.

you'll see the last line (13) will say the smaller of line 2 which excludes the excess or line 12. however, the amount that appears on line 13 is the actual contribution (not in excess of line 12) plus any carryover utilized.

if you look at 5329 for the year you'll see line 42 report the prior year exess but then on line 43 any prior year excess is to extent utilized appears.  lines 43 + 44 = line 45 this line is subtracted from the prior year excess and if the are equal there is no excess for the 6% penalty 

[btslater]

Thanks everyone!! Your responses are very helpful. I was really confused about what the CPA firm told me. I kept thinking "what am I missing?" 

I deliberately contributed $400 less than the max in 2022. When I plugged my information into Turbotax, it did exactly what you are describing. Turbotax automatically added the $400 to line 13 on Form 8889 and the prior year excess was zeroed out on Form 5329 (i.e., $400 on lines 43 and 45, resulting in $0 prior year excess on line 46). 

The CPA firm told me that this wasn't enough to resolve the excess. They stated that I can claim the $400 prior year excess in 2022, but I also have to turn around and remove it via a non-qualified distribution. I think we would all agree that this step isn't necessary and my position is accurate.