Due to income limits I've realized I overcontributed to Coverdell accounts for my two kids for 2015 and 2016. I want to transfer all the money to their 529 accounts, how

[alex227]

I first contributed to Coverdell Education Saving Accounts for my two kids in 2014 ($450 each).  I contributed again in 2015 ($1,800 each) and the current year for 2016 ($1,200 each before I stopped).  I have realized due to income I wasn't allowed to contribute for 2015 or 2016 (although I was for 2014).  I am now wondering what I need to do and how to report on my taxes for 2016 and/or prior years.  I'm also hoping to just transfer it all to their 529s (it is currently sitting in the Coverdell accounts at TIAA-Cref), so I'm wondering how I would do that and how to report it for tax purposes.  Thank you.

[Carl]

I myself can not help with this. But in the hopes that another reader can, they will need to know what state you are in and if that state taxes your income or not.

[alex227]

I am in Kansas, and yes our income is taxed. Thanks.

[Hal_Al]

Deleted. See answer.

[Hal_Al · Accepted solution]

It's complicated, you may want to go to a tax pro.

You should remove the funds from the Coverdell account. The 2014 funds will be a roll over.  A roll over to a 529 plan is a qualified (non taxable) distribution. The 2015 & 2016 funds will be a contribution to the 529 (not a rollover). You may want to talk to the 529 plan people about the proper contribution/rollover application forms.  

The removal of the 2016 contributions is not subject to penalty, as you have until June 1, 2017 to remove that money. You missed the deadline of June 1, 2016 for removing the 2015 contributions and are subject to a 6% excess contribution penalty on the $3600, which should be reported on form 5329.

Pub 970 indicates that the beneficiary is responsible for excess contributions, so a beneficiary on behalf of whom excess Coverdell contributions were made (and not removed by a return of contribution by June 1 of year following the year for which the contribution is made) must file Form 5329.  Form 5329 can be filed stand-alone if the beneficiary otherwise does not file a tax return with which the Form 5329 would be filed.

The excess contribution is subject to the 6% excess contribution penalty each year the excess remains in the account.  If not returned before June 1 of the year following the year for which the contribution is made. The excess must be distributed to the beneficiary without any adjustment for earnings.  This is taxable to the beneficiary as a regular distribution (a proportional amount of basis and earnings, with the earnings subject to tax if not used for qualified education expense and to a 10% penalty unless an exception applies).

You have made excess contributions of $1,800 on behalf of each of the two beneficiaries for 2015 and $1,200 excess contributions on behalf of each for 2016.  For the 2015 excess contributions, you must prepare Form 5329 for each beneficiary and pay the 6%, $108 for each and, before the end of 2016, make a distribution of $1,800 from each account.  The excess 2016 contributions should be removed by a return of contribution (with earnings, which will be taxable but not subject to the 10% early distribution penalty).

[dmertz]

Technically, a rollover would be Coverdell to Coverdell.  A contribution to a 529 plan from money distributed from a Coverdell account of the same beneficiary is instead considered under IRC section 530(b)(2)(B) to be a qualified education expense that would make the distribution from the Coverdell account tax an penalty free if the contribution to the 529 plan is made in the same calendar year.  The result is generally the same as it would be if it was considered to be a rollover, but there might be subtle differences in this case given the involvement of the excess contribution to the Coverdell account for 2015.  In the case of a rollover, a distribution rolled over doesn't seem to correct the excess, while a Coverdell distribution used for a qualified education expense does.

[alex227]

This answer from Hal_Al was very helpful.  I am filling out this Form 5329 now.  Since the excess contribution was for 2015, my understanding is that I will late file a 2015 Form 5329 for that excess contribution.  Is that correct?  I will also be filing a 2016 Form 5329 for the distribution for the 2015 and 2016 amounts and the 10% penalty for the 2015 amount.  Should any of that instead go on the late filed 2015 Form?  Thank you again for your help.

[AL107]

Thank you so much for such a great response. I just wanted to follow up with my situation. I have overcontributed to my ESA for the year of 2021, but timely removed the access and earnings (in practice it was a loss) by Jun 1st of 2022. Because there was a loss my distribution was smaller than the access.

My understanding is there is no penalty and there is no income from that distribution either. How do I report that? Do I need to report that at all?

Really appreciate your help!

[Hal_Al]

Q. My understanding is there is no penalty and there is no income from that distribution either. Do I need to report that at all?

A.  No. The 1099-Q is just an informational document.  If you know that nothing is taxable, it does not need to be entered in TT.

[AL107]

Thank you so much!