I think there’s probably an objective answer to this, so I’m putting my Q here instead of IMHO but please move it if necessary, mod.
Got a letter saying “Some of your contributions have been determined to be excess amounts according to test results and must be refunded to you and/or forfeited.” It has a breakdown of amounts, in these categories that are labeled “Excess Contribution - Type 02”:
A. Excess Roth contributions
B. Excess non-Roth contributions
C. Gain or Loss
D. Total Refund
E. Tax Withheld
F. Total check amount
With corresponding amounts for each category. There are two checks attached that add up to the amount in F.
There’s another letter with same date saying the same thing except the categories are for “Excess Aggregate Matching Contribution - Type 03”:
A. Excess Matching Contributions
B. Gain or Loss
C. Amount Forfeited
D. Total Refund
E. Tax Withheld
F. Total Check Amount
And there’s a check attached for the amount listed in F.
Can anyone explain in lay terms what this means and what I need to do? I’ve Googled around and found a lot of info in tax-ese language which just makes it more confusing.
I will be talking to a tax pro too but would like to have at least a basic notion of what it means first. The sums involved are not insignificant to me, in the low 5 figures, so I want to make sure this doesn’t happen again and do whatever I can to minimize tax implications. Any thoughts?
Stopgap answer until someone more knowledgeable comes around. You are limited to contributing $5,500 combined to your IRAs. Did you think it was $5,500 each?
You’ve contributed more than the allowable amount to your various retirement accounts and therefore have to receive that money back. Likewise, your company matched the amount that exceeded your limit, and therefore you get that money back too.
Do I need to do anything now, tax-wise? In further reading since posting my Q, if I’m understanding correctly I will get a 1099-R next Jan. and have to include the total excess contribution amount as income for this year (since I received it back this year) when I file 2017 taxes.
OR, is that only if I did not receive the excess back before April 15 of this year? Since I received the excess back now, well before April 15, do I need to do nothing at all going forward – except do something with the money I received back, of course. Thank you for the quick replies.
How do I prevent this from happening again? Seems like there should be something built in to the contribution process that prevents me from putting in too much. I thought that sort of thing would be automated?
In my reading I’m seeing suggestions to “contact your plan administrator” - I don’t quite understand that, since THEY contacted ME already, in the form of sending these letters and checks for the excess contribution. Maybe the “contact…” suggestion is for people who have not already been notified that they overpaid. But what else might I be missing in terms of not having this happen again?
There are Roth and Traditional (non-Roth) IRAs and 401(k)s, and they’re different things. Which one are you dealing with? Given the mention of “matching” and “five-figure amounts”, probably 401(k).
It sounds like you are talking about an employer retirement plan such as a 401(k), not about an IRA.
401(k) plans have to meet certain “non-discrimination” rules that require the plan sponsors to make the plan accessible to all employees. An employer cannot set up a plan that that just allows the fat-cat top executives to contribute and locks out the peons.
To avoid this problem in the future, either try to convince the low-paid employees to contribute more to the plan or try to convince the high-paid employees to contribute less. Or try to convince your employer to adopt a “safe harbor” plan.
Sorry for any confusion, guys. It’s a 401(k) plan.
Alleydweller, I’ll read about the safe harbor plan to gain better understanding. For now, do I understand correctly that I don’t need to do anything about this current excess except deposit the checks?
Yes, this makes far more sense as a returning of “excess” contributions that your employer decided to do upon failing the preliminary nondiscrimnation testing. Not enough serfs contributed to the 401(k) program compared to Lords, so they’re giving back some of the Lord’s money to make it “fair” to the serfs who are barely subsisting on what the company is paying and can’t save as much for retirement as the Lords can. The company has another option: give the serfs enough money to make up the difference from their own pocketbook. For some reason that’s rarely the route anyone takes.
If the amount returned to you included any before-tax contributions (Roth contributions are after-tax, non-Roth can be before-tax or after-tax), you must add those contributions to your 2016 wages, even though you will not receive the corresponding 1099-R until next year. According to the Form 1040 instructions (pdf), this amount should be reported on line 7 of your Form 1040.
You will also receive a separate 1099-R next year for the distributed earnings. If the earning were distributed in 2017, they will not be subject to tax until you file your 2017 return.
How do you propose to do this? I could have 5 different IRA plans at 5 different brokerages. Why should they be expected to contact each other and say, “Hey does Saint Cad have an IRA with you?”
An employer’s 401(k) plan has these “tests” they do. You may be allowed to contribute the max to the 401(k) plan according to the IRS, however the plan can have limits on your contribution. This is based on how many others are participating in the plan and how much they contribute too. If not enough other employees are making contributions to the plan, this will show up in their “tests”. So while the IRS said you could contribution $18K ($24K if over 50), their test might only allow you to contribute, for example, $17K. So the plan returns and taxes you on the $1K excess. This excess is due to what the other employees in the employer’s plan have contributed in that same tax year.
This is why many 401(k) employer plans encourage employees to sign up for this, because it hurts the more highly compensated people in the company such as upper management by limiting how much they can contribute. Some of them, even if the employee doesn’t sign up for it, do an automatic 3% contribution just to get money into the plan. They aren’t doing this to make sure employees have retirement, they are doing this to make sure those that are more highly compensated can make max contributions according to the IRS.
Yeah, I did additional research in the interim and came to see a scenario like you describe could make a “failsafe” against over-contribution on the brokerage side unrealistic in cases where one has multiple plans in different places. However, I was only thinking that for an individual brokerage, they’d be able to at least guard against me over-contributed through THEIR plan alone.
Right, I have a better understanding of how it works now. I hadn’t known about the “tests” before I posted my question. Now I know more than I want to but probably still not as much as I should! Thanks for breaking down this aspect in lay terms. It seems that in aggregate there are Dopers who know something about almost anything. Part of what I love about this board.
