How to correct an excess HSA contribution that was made years ago ?

[Dasstc]

@Opus 17  Okay thanks.  Makes sense now.  

[Dasstc]

@Opus 17  Turns out I actually did withdraw the excess from my HSA in 2021 and got a 1099-SA.    Since I haven't filed my taxes yet, I checked the box on the 1099-SA that the distribution was NOT used to pay medical expenses.    A large penalty was added to my bottom line taxes.  More importantly, Turbo Tax took the amount out of my 2021 carry over worksheet!  So your answer is the solution!  Many thanks.

[Opus 17]

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@Dasstc wrote:

@Opus 17  Turns out I actually did withdraw the excess from my HSA in 2021 and got a 1099-SA.    Since I haven't filed my taxes yet, I checked the box on the 1099-SA that the distribution was NOT used to pay medical expenses.    A large penalty was added to my bottom line taxes.  More importantly, Turbo Tax took the amount out of my 2021 carry over worksheet!  So your answer is the solution!  Many thanks.

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Good.  Make sure you aren't paying too much penalty, if you used some of the withdrawal for qualified expenses, there should be a way to indicate how much was qualified and how much was not qualified.  

Cheers. 

[Dasstc]

@Opus 17 Yes my 1099-SA amount was exactly the excess contribution.  Looks like the additional tax on that amount was almost 50%.   I assume 20% is the penalty and the rest is the income tax rate for my tax bracket.  

I'm thinking I may keep kicking this down the road, paying the 6% penalty each year.  I'll close it out after I reach age 65 when the 20% penalty doesn't apply.  I'm only a few years away from that.

[Opus 17]

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@Dasstc wrote:

@Opus 17 Yes my 1099-SA amount was exactly the excess contribution.  Looks like the additional tax on that amount was almost 50%.   I assume 20% is the penalty and the rest is the income tax rate for my tax bracket.  

I'm thinking I may keep kicking this down the road, paying the 6% penalty each year.  I'll close it out after I reach age 65 when the 20% penalty doesn't apply.  I'm only a few years away from that.

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You would pay regular income tax, state income tax, and the 20% penalty.  It might add up to 50%, depending on your income and what state you live in.

If you stretch it out to age 65, you will pay 6% each year, and you will still pay income tax, you just escape the extra 20%.  It may or may not be worth it.

[Chena]

@Opus 17

Thanks for the explanation for addressing the excess contribution years after failing to correct in the tax year of the excess contribution.

I have been showing the excess contribution in my taxes for the 2 years since it was made.

Given that, sounds like I can simply withdraw the excess contribution itself and get things cleared up when I file my 2022 taxes next year.

Again, I do appreciate the detailed explanation.

[thakkarh1116]

Thanks @Opus 17 

As you stated that one option for removing the excess HSA contribution from prior years is to take a non-qualified withdrawal. I found this solution from multiple sources on the web and few replies to the original question in this chain. This was a fairly straightforward answer, but what was unclear is how would I make the withdrawal such that the withdrawal of the excess amount would be flagged as the non-qualified withdrawal when the withdrawal is for excess contributions from years past. Basically how would the 1099-SA be marked to make this distinction. I think others following this post had probably the same confusion as to how to distinguish the non-qualified withdrawal of excess from past years from the withdrawal of excess from 2021 or normal eligible withdrawals. 

Your response provides this clarification. Simply make the withdrawal from HSA without specifying it as excess withdrawal. Then when filing taxes for 2022, inform TurboTax that not all monies taken from HSA were for medical expenses. Consider this hypothetical scenario, for example,

• I have $1000 excess HSA contribution carried from 2019
• I will have accrued $2000 eligible medical expenses in 2022 
• I can withdraw $3000 over the course of tax year 2022 as normal distribution. I will receive a 1099-SA from HSA custodian specify $3000 as normal distribution. 
• When preparing 2022 taxes on TurboTax 2023, TurboTax will recognize that $3000 were taken out from an HSA based on the 1099-SA. At this point, I can enter in to TurboTax 2023 that $2000 of the $3000 HSA withdrawal were for eligible medical expenses. Consequently, TurboTax would mark $1000 as non-qualified withdrawal and apply 20% penalty and tax on that $1000 amount. Simple as that.

[Opus 17]

@thakkarh1116 

Correct.  The tax and penalty will be applied to the excess that was removed, but it will be removed from your tax history and no longer be subject to an annual 6% penalty.   

However, it may not always be necessary to do this.

1. If you are eligible to make new contributions, you can "use up" the excess by contributing less than the maximum amount in the current year.  When you consider income tax plus 20%, versus 6% per year, you can see that it might be cheaper in the long run to leave the excess in the account IF you think you might have HSA eligible insurance again some time in the next 5 years.  

2. The penalty is 6% of the excess or 6% of the account balance, whichever is less.  If you won't be eligible to make new contributions any time soon, but you think you might spend the account down to zero in the next 5 years, you may pay less tax in the long run by paying the annual 6% until you spend the account out, instead of the income tax plus 20% now. 

3. If you are age 65 or older, you will pay income tax but not the penalty if you withdraw the excess for non-medical expenses.  If you are 62 or older, it may be cheaper to leave the money in the account and pay 6% for a couple of years instead of 20% now. 

[thakkarh1116]

@Opus 17 

Thanks for sharing this very useful tip that simply by reducing my current year's HSA contribution by the amount of excess sitting from previous year automatically brings everything into balance. No more excess and without incurring the 20% penalty. 

Thank you!

[JR108]

And there is no 20% penalty if you are over 65. Correct? 

[Opus 17]

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@JR108 wrote:

And there is no 20% penalty if you are over 65. Correct? 

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Correct. Withdrawals for medical reasons are tax-free.  Withdrawals for non-medical reasons (including just spending money as well as this kind of correction) are subject to income tax but not the penalty.

[rdjohnston99]

Many thanks Opus 17.

I am another Turbo Tax customer with a Fidelity HSA.
Your patience and detailed explanation saved me
what was looking to be many frustrating calls to the
IRS and Fidelity to resolve my excess HSA contribution issue for the 2020
tax year. Again many thanks.

[Tonyylo]

Hi,

I contributed too much while switching jobs in the middle of the 2021. I have requested an excess contribution withdrawal and my administrator said I would get a corrected tax for to file my taxes. ) I filed for an extension. Now they say excess distributions are processed as distributions and I will get a form next year.

what do I do? I have been waiting to file my taxes and now they have no corrected form for me like they said they would have

[Opus 17]

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@Tonyylo wrote:

Hi,

I contributed too much while switching jobs in the middle of the 2021. I have requested an excess contribution withdrawal and my administrator said I would get a corrected tax for to file my taxes. ) I filed for an extension. Now they say excess distributions are processed as distributions and I will get a form next year.

what do I do? I have been waiting to file my taxes and now they have no corrected form for me like they said they would have

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The bank is correct, but that's ok.

For your 2021 taxes, if you successfully reversed the contribution, it's as if it was never made.  Turbotax should tell you that you contributed too much and ask you if you will withdraw it.  When you say yes, that's all you need to do.  Turbotax should also ask if you have earnings from the excess, and you will report it.

Then in January 2023, you will get a 1099-SSA for your distributions during 2022.  It should have a distribution code "2", which is for return of excess contributions, and Turbotax will report it but not count it as taxable income. 

[bgkr]

1) As some user suggested in the reply chain, take a non-qualifying distribution of the excess amount such that 20% tax is assessed on that amount.

(OR)

2) If you have a HDHP in the current year, make sure your HSA contribution is less by at least $100 (your excess amount) than the maximum contribution limit so that it is adjusted automatically in the contribution limit for the year. That is, in form 5329 line 42 you will enter $100 (carry-on from previous year return), line 43 will be $100 (max contribution 7200 minus your total contribution 7100, let's say). So, line 48 becomes zero. Hence, from next year your line 42 is zero.