What Constitutes an Excess IRA Contribution?

Your IRA contribution limit is set on an annual basis by the Internal Revenue Service (IRS). The limit is in place to stop highly-compensated individuals from unfairly benefiting from the tax gains available through an IRA. The limit applies to all individuals, however, regardless of compensation. There is a cap on how much you can deposit during a given year and how much your IRA can grow over time.

Yearly Excess Contribution

In 2009, the IRS capped annual IRA contributions at $5,000 or $6,000 for individuals over 50-years-old. This is independent of salary; no matter how much you make, this is the most you can contribute to either a Roth IRA or a Traditional IRA. If your annual taxable income is less than this maximum, you can only contribute up to your annual income. This limit does not increase when you are filing jointly. The maximum is still $5,000 or $6,000. If the annual salary earned by both individuals is less than this sum, then the maximum is that salary minus any contributions to a spouse's IRA. If you are over the Required Minimum Distribution (RMD) age of 70-1/2, you cannot make contributions to a Traditional IRA.

Ineligible Rollover

Rollovers do not count as part of your annual maximum contribution. So, if you have two IRA accounts, you can roll an old account into a new account. As long as the transaction takes place within 60 days, you will not be penalized. The only exception is an ineligible rollover. This occurs when you fail to take your RMD after 70-1/2. You cannot rollover the contribution you failed to take. Instead, you must take the RMD or face a penalty of 50 percent of the RMD amount. If you attempt to roll the funds over, you will additionally face a tax penalty on the ineligible rollover.

Withdrawing an Excess Contribution

If you have an excess IRA contribution in a given year, you will be assessed a tax penalty on the excess monies deposited. Thankfully, the IRS gives you a chance to correct the problem. As long as you withdraw the contribution prior to April 15, when you file your taxes, you will not be assessed the tax. It does not matter what you do with the funds once you withdraw them. They have not received special tax status yet, so this will not be considered an early withdraw. Simply remove the funds and allocate them to a different form of savings account in order to prevent penalty.

Asking for Penalty Abatement

If you have been assessed a penalty on your IRA contributions, you have the right to ask for that penalty to be reduced or eliminated. It is rare for the IRS to eliminate a penalty unless it resulted because the IRS itself gave improper information. In this case, you must prove the IRS gave you bad advice that resulted in the penalty. File a Form 843 along with written copies of the information provided to you by the IRS that caused the error in order to ask for abatement.

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