The IRS instruction forms for 5329 and 8889 indicate that your
'excess contributions will be treated as if they had not been contributed if you do 3 things.
1. Withdraw your the 2016 tax due date (April 18)
2. Do not claim a deduction on the excess - no problem TurboTax
knows this already
3. Also withdraw income earned on the excess contribution.
You can
avoid all penalties by removing the excess contributions (and any of their
earnings) from your HSA and treating them as normal taxable income. Per the
IRS:
"You may withdraw some or all of the excess contributions and not
pay the excise tax on the amount withdrawn if you meet the following
conditions.
1) You withdraw the excess contributions by the due date, including extensions,
of your tax return for the year the contributions were made.
2) You withdraw any income earned on the withdrawn contributions and include
the earnings in “Other income” on your tax return for the year you withdraw the
contributions and earnings."
The
IRS spells it out pretty clearly there, but the removal of the excess
contributions and the earnings on those excess contributions must occur before
your tax due date. The removed is taxable since HSA tax benefits do not apply.
Earnings on excess contributions occur if your HSA is invested or earning
interest. Removing those seems fair, since those investments shouldn’t have
been made in the first place. The IRS solves all of this by saying just remove
them, don’t deduct (i.e. pay tax on ) the excess amounts, and declare any
earnings as other income.
It'is a little hard to determine exactly
which investment they were put into and from where they should be removed. This
makes it difficult to determine the exact earnings for the dollars specifically
declared excess contributions. Thus, the IRS permits an “average” determination
of the gains of the HSA during that time, and the pro rata share of those
average gains that can be attributed to excess contributions.
Forms
for Removing Excess Contributions
You
will need to specifically inform your HSA trustee of a correction and that you
wish to remove an excess contribution to your HSA. This triggers them to
classify the transaction separately, as opposed to a normal withdrawal for
qualified medical expenses. They will proceed to file an additional Form 1099-SA
showing the excess contribution being
distributed from the HSA with a distribution code of “2”. Be sure to remove and
identify any earnings on the excess contribution as well. This form will be
provided to you to indicate 1) a distribution from the account that 2) was for
excess contributions.
The
other thing that should occur is your HSA trustee will correct your Form
5498-SA which shows HSA contributions for the year. While they initially would
have included your excess contribution (they didn’t know it was excess), once
you alert them and withdraw it, they will remove it from Form 5498-SA. That
means that your Form 5498-SA will be accurate for the year and
should not include any excess contributions.
