Excess Roth IRA contribution earnings

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Topic Author
BuffMaltese
Posts: 22
Joined: Thu Jul 19, 2018 9:30 pm

Excess Roth IRA contribution earnings

Post by BuffMaltese »

2020 Jan contributed $6k to mine and my wife’s Roth IRAs. Income ended up being more than expected, learned I need to withdraw the 12k by May 15.

However, in 2021 we had significant gains in the accounts with the excessive contributions.

What happens with earnings outside the tax year the excessive contributions were made?

Do I need to withdraw the calculated portion with the 12k before may 15, or next year by April 15, or not at all?
tashnewbie
Posts: 1557
Joined: Thu Apr 23, 2020 12:44 pm

Re: Excess Roth IRA contribution earnings

Post by tashnewbie »

Do either of you have pretax IRAs (Traditional, SEP, SIMPLE, Rollover)? If not, then you could re-characterize the 2020 Roth IRA contributions and then do Roth conversions. These 2 steps (non-deductible TIRA contribution + Roth conversion) make up the Backdoor Roth. You should read that wiki and other forum threads carefully, because the tax paperwork can be a little complicated.

You'd need to complete a 2020 Form 8606 to document the n-d TIRA contributions. You'd also need to attach an explanatory statement to that form to describe the recharacterization. In 2022, you'll need to complete a 2021 Form 8606 to document the Roth conversion. In 2022, you'll owe ordinary income tax on the growth of the recharacterized Roth IRA contributions while they were in the Roth IRA.

If you don't want to bother with the backdoor Roth, then you have at least a couple options that I'm aware of:
1. Withdraw the original Roth IRA contributions and associated earnings by October 15, 2021 (that's the deadline to remove the ineligible contributions to avoid the 2020 6% excise tax). Ask your IRA custodian to do this. For 2021, you'll owe ordinary income tax on the earnings and 10% early withdrawal penalty on the earnings because you're <50 years old.

2. If you have significant earnings on the 2020 contributions, then it might be better to get a return of the ineligible contribution only, after October 15 but before the end of calendar year 2021. Again, ask your IRA custodian to do this. Ask them to distribute $6k to each of you. You can leave the associated earnings in the accounts. You'll each owe 6% excise tax on the original $6k contribution for 2020. But if you remove these contributions before 12/31/21, then you'll avoid 2021 excise tax.

ETA: forum member Alan S. is an expert on these things. Use the Google search bar to find his posts about these things.
Topic Author
BuffMaltese
Posts: 22
Joined: Thu Jul 19, 2018 9:30 pm

Re: Excess Roth IRA contribution earnings

Post by BuffMaltese »

Appreciate the thoughtful response.
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