Too Much contributed to Roth even before Interest?

[taxruler]

Let's say I made 7000 in 2024 as self-employed, not counting any interest earned. Turbotax seems to show this amount as both gross, net income. Then, when I enter that I contributed 7000 to my Roth in 2024, why would it say I contributed too much? It's reason seems to be that earned income was only 6505, but why? If I took 0 deductions, is it the earned income tax credit that's doing it? I don't understand how it's 6505, or how I'd know I can only contribute 6505, or what to do if all contributed dollars are already invested within the Roth?
Also, I initially wasn't going to mention contributions to Roth, because it was under deductions, which is a waste of time since it always says I should take the SALT. So what if I never filled out the Roth contribution info? I thought deductions are only optional, for my benefit, but now it seems not filling it out could lead to not realizing I made an excess contribution to my Roth? What would happen if I never filled out the Roth stuff? 
Is there other important stuff in there I must fill out?

[DanaB27]

You need  taxable compensations to make IRA contributions. Since you are self-employed your taxable compensation is your net profit (line 3 of Schedule 1) reduced by 

• The deduction for contributions made on your behalf to retirement plans (line 16 of Schedule 1), and
• The deduction allowed for the deductible part of your self-employment taxes (line 15 of Schedule 1).

You aren't required to report Roth IRA contributions but generally it helps to enter it since it will let you know if you have an excess Roth IRA contribution. Also, IRA contributions sometimes can qualify you for Retirement Savings Contributions Credit. 

Excess contributions are taxed at 6% per year for each year the excess amounts remain in the IRA. You will need to request the withdrawal of an excess Roth IRA contribution plus earnings with your financial institution by the due date to avoid the 6% penalty. The earnings will be taxable in the year the contribution was made.

If you made an excess contribution in 2024 and withdrew the 2024 excess Roth IRA contribution plus earnings in 2025 before the due date, then you will get a 2025 Form 1099-R in 2026 with codes P and J. This 1099-R will have to be included on your 2024 tax return and you have two options:  

• You can wait until you receive the 2025 Form 1099-R in 2026 and amend your 2024 return or
• You can report it now in your 2024 return and ignore the 1099-R when it comes unless there is Box 4 Federal Tax withholding and/or Box 14 State withholding. Then you must enter the 2025 Form 1099-R into the 2025 tax return since the withholdings are reported in the year that the tax was withheld. The 2025 code P will not do anything to your income to the 2025 tax return income but the withholdings will be applied to 2025.

To create a Form 1099-R in your 2024 return please follow the steps below:

1. Login to your TurboTax Account 
2. Click on the "Search" on the top right and type “1099-R” 
3. Click on “Jump to 1099-R”
4. Answer "Yes" to "Did you get a 1099-R in 2024?"
5. Select "I'll type it in myself"
6. Box 1 enter total distribution (contribution plus earning)
7. Box 2a enter the earnings
8. Box 7 enter J and P
9. Click "Continue"
10. On "Is the IRA/SEP/SIMPLE box on this 1099-R checked?" screen answer "No, the box is blank"?
11. On the "Which year on Form 1099-R" screen say that this is a 2025 Form 1099-R.
12. Click "Continue" after all 1099-R are entered and answer all the questions.
13. Continue until "Did you use your IRA to pay for any of these expenses?" screen and enter the amount of earnings under "Corrective distributions made before the due date of the return".

Please be aware, code P will say in the drop-down menu "Return of contribution taxable in 2023" but you can ignore that since the follow-up question will tell TurboTax that it will be taxable in 2024.

Also, you want to indicate in the IRA contribution interview that you removed the excess contribution to avoid the 6% penalty:

1. Click on "Search" on the top right and type “IRA contributions”
2. Click on “Jump to IRA contributions"
3. Select “Roth IRA”
4. Continue until the penalty screen and enter the excess contribution amount withdrawn.

[dmertz]

Your IRA contribution is not permitted to exceed net earnings.  Net earnings are net profit minus the deductible portion of self-employment taxes.  With $7,000 of net profit, the deduction for SE tax is $495, so your net earnings are only $6,505.  Anything contributed beyond $6,505 is therefore an excess contribution subject to penalty unless corrected by obtaining an explicit return of contribution before the due date of your tax return, including extensions.

[taxruler]

I suspected it was something like that, but I'm confused because it never happened before. I remember previously it was like, 6k made, 6k contributed to Roth, 6K allowed as the limit all ok.  I think that happened for several years including last year. So how is it possible that it changed?

Also, the Earned Income credit shows as 499 when I enter income of 7k. So how they arrive at 6505 as the earned amount, resulting in excess contribution of 495?

Also, if 7k is the limit for a Roth contribution for 2024, when you made 7k exactly that year, how would anyone know to contribute 495 less before filing taxes?

If you already contributed 7k to your Roth, the investment was spread to a couple of stocks that lost significantly, do you have to sell the stocks at a loss to take the excess contribution out? Does it have to be the exact stocks you bought too?

What if you file taxes while requesting SALT, you don't bother with deductions, then would you get a surprise letter in the mail demanding you pay 6% penalty on the excess contribution within 30 days, or something?

I just spent like 4 hours on the phone with Turbotax to find a solution, but failed. So good answers would greatly be appreciated. We tested adding more income, with results solving the problem, by adding chump change. The problem is, even if I remember better to find out that I did indeed earn that chump change, it probably didn't leave a paper trail, plus I think I didn't report it when filing LA City business taxes, even though I'm sure reporting it with LA would've made 0 difference with LA. So would you include the chump change (not even 1k) on Turbotax to solve the problem?

P.S Does this mean I can't skip things in Turbotax, like the deductions section, even if I take SALT, because it can backfire, like how I almost missed this Roth issue?

What does level 15 mean? You're smart on this stuff?
Thanks.

[dmertz]

With regard to these calculations, nothing has changed in more than 15 years (and has probably never changed).

"So how they arrive at 6505 as the earned amount, resulting in excess contribution of 495?"

I explained that.  $7,000 of net profit minus the $495 deductible portion of self-employment taxes equals $6,505 of net earnings.  The deductible portion of self-employment taxes is calculated on Schedule SE as:

$7,000 * 0.9235 * 0.153 / 2 = $495 after rounding.

"Also, if 7k is the limit for a Roth contribution for 2024, when you made 7k exactly that year, how would anyone know to contribute 495 less before filing taxes?"

One can either make the entry into tax return software like TurboTax, then let the software do the calculations and tell you if the contribution is too much, or one can develop an understanding of the tax code and do their own calculations.

The amount distributed return of contribution does not have to be derived from the same stocks that were purchased with the excess contribution.  The attributable earnings required to be distributed with the returned contribution are calculated over the entire account, not over any particular investment in the account.

Skipping around in TurboTax can indeed cause you to bypass certain necessary entries.  Many omissions are caught in TurboTax's final checks of your tax return, but some are not.  If you fail to enter a Roth IRA contribution simply because it doesn't appear as a deduction on your filed tax return, TurboTax will be unable to do the calculation to see if any of your contribution is an excess contribution.

Level 15 means that I've made many replies in these forums, over 15,000 to date.  I've been a TurboTax user for more than 30 years.  The majority of these replies have been related to retirement contributions and distribution or have been related to self-employment.

[taxruler]

A couple years ago, I reported adjusted gross income of 6,110, with EIC of 461, yet it let me contribute 6000 to the Roth. I took SALT n had no other income except minor interest. If nothing changed since, why the EIC of 461 didn't make the 6000 into the Roth, an excess?

If the Earned Income credit this time shows as 499 when I enter income of 7k, why Turbotax arrives at 6505 as the earned amount, resulting in excess contribution of 495? If it's because the 499 rounds off, wouldn't it round off to 500, or how does that work?

If you already made an excess contribution to your Roth, n then made earnings in the Roth, "which dollars" comes out doesn't matter, but rather it's the total excess plus its earnings? If you contributed 550 extra, then u remove 550, but how does 1 calculate what the (excess) earnings would be? You have to return ALL earnings for the ENTIRE year, even if you made, for example, 10k off of 100k, you lose the entire 10k because of the insignificant 550?

How and when do you know if you're in trouble and/or owe the 6% penalty if Turbotax misses it since you didn't enter it because it was in the "deductions" section that you thought was irrelevant because you take the SALT?

If some of your income was in cash, you can include it with the rest of your self employment income, even if you don't report it when you file your LA City business taxes because that income was derived outside of LA and/or too insignificant (if this question is beyond your expertise, just let me know and I understand)?

So even if all u did was earn 7k, totally single, no deducations etc. would u still go through everything in Turbotax? I thought I was worrying too much all these years by doing that.

So if you're filing for the 1st time (so no old Turbotax to test with before) n educate yourself by learning the Roth contribution limit as 7k, n earn 7k, wouldn't u contribute 7k to Roth, n find out the hard way that the EIC results in your Roth having excess contribution? It's like I understand you saying to test it or research, but how would you know to test or research something like that, if you didn't know you had to test or research something like that in the first place?
 
Thanks.

[dmertz]

"I reported adjusted gross income of 6,110, with EIC of 461, yet it let me contribute 6000 to the Roth."

AGI is not the limiting factor.  If a $6,000 Roth IRA contribution was permitted and your only compensation was from self-employment, it seems that your net profit on Schedule C was at least $6,456.

EIC has nothing to do with this.

""which dollars" comes out doesn't matter, but rather it's the total excess plus its earnings?"

Correct.  Attributable earnings are calculated using the entire account value, not any particular investment within the account.  CFR 1.408-11 specifies the method for calculating attributable earnings.  It's not straightforward, so the IRA custodian normally does the calculation when you request a return of contribution before the due date of your tax return:

https://www.law.cornell.edu/cfr/text/26/1.408-11

If you don't enter the contribution into TurboTax, it you might never realize that you made an excess contribution.  The tax code was recently changed by the SECURE 2.0 Act to create a statute of limitations on a failure to report an excess IRA contribution, but this change only applies to excess contributions made after December 29, 2022.

You are required to include on Schedule C all of your business income and expenses even if the income is not reported on any Form 1099-NEC or 1099-MISC.

In step-by-step mode you should go through all of the guided sections.  In sections that don't apply, you'll have nothing to enter and they won't affect your tax return.

As self-employed, unless you are confident that you will have enough compensation to support the IRA contribution, you would normally wait to make your IRA contribution until after you have allowed TurboTax to indicate that the amount of a contribution you enter is not an excess contribution.  In other words, complete at least the self-employment and IRA contribution sections of TurboTax before making the contribution.

[taxruler]

Thanks for the useful info.

The broker (who controls the Roth and whom I called when Turbotax warned me about the excess for 2022) when calculating the excess to take out for tax year 2022, right before I filed those taxes in 2023, would not only calculate the correct amount (he seemed to know what to do), but also initiate any needed forms like 1099-R (which I vaguely remember happening but I'm not sure), correct? Anyway for me to know if I need to worry or do anything?

Now regarding the different tax year, where are u getting $6,456 from? I'm seeing it was AGI of 6,110, yet it let me contribute 6000 to the Roth. 

I know u replied regarding if EIC this time shows as 499 when I enter income of 7k, but still no answer on why Turbotax arrives at 6505? Wouldn't it be 6501???

I guess the LA City tax question is beyond your expertise?

[dmertz]

With no wages on a W-2 that would result in you having more compensation than the Social Security wage base, $6,456 of net profit from self employment is the amount that would produce $456 as the deductible portion of self-employment taxes, leaving $6,000 available to support a Roth IRA contribution.

$6,456 - ($6,456 * 0.9235 * 0.153 / 2) = $6,000 (after rounding)

AGI is not the same as your compensation and is only used in determining if your total income is too much to make the Roth IRA contribution.   To contribute to a Roth IRA you need to have enough compensation but not too much total income.

EIC is a tax credit.  It reduces tax liability, not AGI.

I am largely baffled by California.

[taxruler]

I just searched the 2022 return, and I do see 6500 as the "other income" which results in AGI of  6110, and regular Roth contribution of 6k. Does that make sense?

For 2024, for EIC, it shows 499 for 7k income. So where is 455 and 456 from?

By the way, so you can't confirm if, based on my last message, I don't need to worry or do anything regarding the 1099-R stuff?

[dmertz]

Your Roth IRA contribution is not permitted to exceed the amount on Schedule C line 31 minus the amount on Schedule SE line 13.

If you have made an excess Roth IRA contribution for 2024, you'll need to request that the Roth IRA custodian make a return of the excess contribution and they will report that distribution on a 2025 Form 1099-R.

[taxruler]

I think you're missing and forgetting stuff, so I just wish to try once more:

1) The excess happened in 2022, fixed by the broker in 2023 before I filed for 2022. I'm not 100% sure if there was a 1099-R involved but I haven't seen any penalty for any Roth ever. Does that indicate I don't need to worry or do anything regarding the 1099-R stuff?

2) For 2022's return, 6500 is the "other income" which results in AGI of 6110, and regular Roth contribution of 6k. Does that "add up" ok?

3)  For 2024's EIC, it shows 499 for 7k income. So where is 455 and 456 from?

Thanks again, even if you don't answer as well as you sometimes have. If you're allowed to leave your FB or you tube, feel free to.