How to fix Excess Roth IRA Contribution in 2020?

[DanaB27]

Yes, Schwab shouldn't have processed the request like that since it was after the extended due date of the 2020 return. 

Applying the excess contribution as a contribution in the following year is a process done on the tax return and not with your financial institution. On your 2021 amended tax return, you will report Form 2022 1099-R with codes P and J. You also will follow these steps to apply the 2020 excess to 2021 to avoid paying the 6% penalty for 2021 and indicate you remove the excess contribution:

1. Click on "Search" on the top right and type “IRA contributions”
2. Click on “Jump to IRA contributions"
3. Select “Roth IRA”
4. Enter your 2021 Roth contributions
5. On the "Do you have any Excess Roth Contributions" answer "Yes"
6. On the "Enter Excess Contributions" screen enter the total excess contribution from 2020 ($1,500).
7. On the "How Much Excess to 2021?" screen enter $1,500 to apply to 2021.
8. On the Penalty screen enter that you removed the excess contribution amount ($1,500) by the due date

@pidgessn 

[pidgessn]

@DanaB27 Based on your comments, I should only file amended tax return for 2021 and move excess Roth IRA from 2020 to 2021? Can you also provide your inputs on filing Form 5329 and for which years?

[pidgessn]

Should I file amended tax return for 2020 as well?

[DanaB27]

Yes, you have to file a 2021 amended return to report the 2022 Form 1099-R with codes P and J and apply the excess to 2021 with the steps above. TurboTax will automatically fill out Form 5328 part IV for the excess contribution part and part I for the 10% early withdrawal penalty on the earnings, if you are over 59 ½ you will get an exception.

It depends, if your 2020 Form 5329 line 25 shows a penalty for the 2020 excess contribution then you do not need to amend your 2020 return. If you don’t have the 6% penalty on your 2020 return, then you will have to amend your 2020 return. All you have to do is enter the Roth contribution and TurboTax will fill out Form 5329.

@pidgessn 

[fanfare]

SUGGESTION:

get 2020,2021 and 2022 Form 5329 from IRS.gov and fill them out by hand.

In order to do that you have to know what you did in and for all those years,

they are all interrelated.

after you are satisfied with that exercise , you can try to amend those years.

the amount of distribution is the amount you requested , not the amount actually returned plus/minus earnings.

@pidgessn 

[pidgessn]

7. On the "How Much Excess to 2021?" screen enter $1,500 to apply to 2021.

@DanaB27 Applying excess from 2020 to 2021 is done on Form 5329? or some other form? which line?

[dmertz]

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@pidgessn wrote:

I submitted a 'Request a recharacterization or remove an excess IRA contribution' form to Schwab where it said 'amount of contribution attributable to the excess' is $1500, 'Contribution date' is '09/22/2020' and 'tax year of contribution' is 2020

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They should have rejected such a request made in 2022.  Because they should have rejected the request, it's not clear if they calculated the Net Income Attributable based on the 9/22/2020 contribution date you indicated (which was an inappropriate calculation) or if they processed a return of a portion of your 2021 Roth IRA contribution based on the date of your 2021 Roth IRA contribution.

The problem is how to explain all of this to the IRS.  You could treat the distribution as not applying to your 2021 Roth IRA contribution and treat the distribution as a regular distribution in 2022 by filing a substitute Form 1099-R with $2,149 in box 1, a blank box 2a, box 2b Taxable amount not determined marked and code J in box 7.  Doing so would mean that you have an excess contribution for 2021 in addition to the excess contribution for 2020.  Otherwise you would have to figure out what the Net Income Attributable would have been on a return of some amount of your 2021 Roth IRA contribution such that the distribution would have equaled $2,149.  You would then be able to apply some or all of the $1,500 excess contribution from 2020 as part of your 2021 contribution, reducing or eliminating the excess contribution penalty for 2021.  Either way, if you did not include the excess $1,500 2020 contribution on your 2021 Form 5329, you'll need to amend your 2021 tax return to at least report this excess and possibly also report the return of part of your 2021 Roth IRA contribution if you go that route.

[pidgessn]

@dmertz ok. I need to file amended return for 2021 and form 5329 for 2020 & 2021. is this right?

Do I need amend my return for 2020? Should i do any reporting on this to my 2022 return?

[dmertz · Accepted solution]

After thinking about it some more, I'm sure that your best approach would be to treat the distribution as a regular (code-J) distribution as I described above.  Doing so will produce a lower tax liability over 2021 and 2022 than would the other approach because the excess contribution penalty for 2021 will almost certainly be less that the income tax and early-distribution penalty that you would pay on the $647 (I'm not sure why this is not $2,149 - $1,500 = $649, but no matter) that would otherwise have to be included in taxable income.  You'll need to file 2020 and 2021 Forms 5329 to report the excess contribution and calculate the penalty for both years, then you'll report the regular distribution on your 2022 tax return by submitting the substitute code-J Form 1099-R (Form 4852) that I mentioned.  When the regular distribution is included on your 2022 tax return, the the excess that carries forward from 2021 will be eliminated on your 2022 Form 5329 by the regular distribution.

[pidgessn]

Thank you @dmertz . So, there is no need to amend 2020 & 2021 tax returns. I need to file form 5329 for 2020 & 2021.  I need to report the regular distribution on my 2022 tax return by submitting the substitute code-J Form 1099-R (Form 4852). That's it?

[dmertz]

There is probably no need to include Form 1040-X with the filing of the 2020 and 2021 Forms 5329.  There are no other changes to your filed tax returns for those years, so Forms 1040-X would serve only to show that there were no other changes.  However, because the code PJ 2022 Form 1099-R would normally be reported on your 2021 tax return, it might not hurt to include Form 1040-X with your 2021 Form 5329 just so that you can to explain that the $647 is not taxable on your 2021 tax return due to you treating the code-PJ reporting as erroneous.

Of course you could try to get Schwab to correct the code PJ Form 1099-R to show $0 returned and issue a new code-J Form 1099-R for the gross amount distributed, but given that they goofed this up to begin with by not rejecting your request (or  instead treating it as a request for a regular distribution in the first place), I probably would not expect them to be competent enough to do that properly.

[pidgessn]

@dmertz @DanaB27 @BrittanyS One last question, Do I have to pay 10% additional tax on early distribution (Part I in Form 5329) in 2022? or 2021? 

Should I file form 5329 for 2022 to report the Roth IRA regular distribution? Should I file form 8606 in 2022?

When I file using form 5498, Will I be paying the tax for $647 earnings (taxable amount) in 1099 R in 2022? What would be the earnings (taxable amount) in substitute 1099-R? Is it the same $647? or Should I ask the Schwab to calculate the earnings (taxable amount) when they send a corrected 1099-R with just J code? 

What will be the additional tax in 2021 Form 5329 as I will be applying 2020 excess contribution to 2021 and took distribution of 2021 excess contribution in 2022? Sorry, I'm slightly confused

I am paying 6% additional tax for the 2020 Roth IRA in 2020 and 2021. It will be the same amount since the excess in both years is same. I'm removing this excess with regular distribution in 2022. Is this the right understanding?

[dmertz]

If you treat the $2,149 distribution as a regular distribution, it will be a distribution of contribution basis, free of income tax and free of any early-distribution penalty.  Yes, this will require Form 8606 Part III to be included in your 2022 tax return.  Your 2022 tax return will also include Form 5329 as I described previously with the excess from 2020 (carried through 2021) on line 18 and $2149 on line 20, reducing the excess to zero for 2022.

If you ask Schwab to report the $2,149 as a regular distribution instead of as a return of contribution, there is nothing for Schwab to calculate.  You have already received the distribution.  When correcting an excess contribution after the due date of your tax return there is no earnings calculation to be done.  However, as I said before, I would not have confidence in Schwab being able to properly change the reporting given that they goofed the whole thing up from the start by not rejecting your original request.

Form 5498 has nothing to do with this.

[pidgessn]

Thank you @dmertz . Since $1500 is the excess contribution for 2020 and not $2149, I would have to pay 10% penalty for the difference (2149 minus 1500) in 2022 Form 5329, right?

[dmertz]

No.  Your contribution basis is more than $2,149, reported as a regular distribution the entire $2,149 is free of tax and penalty.  That's one of the reasons that I said that treating the distribution as a regular distribution minimizes your tax liability over the several years.  Only if taxable amounts are distributed from your Roth IRA would you have any early distribution penalty, and treating it as a regular distribution makes the distribution nontaxable, calculated on Form 8606 part III.