A:

It depends. If the excess contribution is removed from your Roth IRA by your tax-filing deadline plus any extensions, along with any net attributable income (NIA), the 6% excise tax does not apply. If the excess contribution is not removed by the deadline, you owe the IRS a 6% excise tax for every year the amount remains in your Roth IRA as an excess contribution. An exception applies if the market value of your Roth IRA for the previous year-end is less than the excess contribution. Under this exception, the 6% excise tax would apply to the market value of your Roth IRA for the previous year-end, instead of to the contribution amount.

Note: Bear in mind that excess contributions that remain in your Roth IRA gets applied as a Roth IRA contribution for the following year, and continues until the excess is used up.

When you overcontribute to your Roth, the 6% penalty applies on the amount contributed, regardless of its current value. For example, if an excess contribution of $5,000 was made and the market value declined to $2,500 by the end of the year, the 6% penalty would still apply to the $5,000. The loss of market value does not change the rules. That may seem unfair, but look at it another way: if the original amount had grown to $10,000, the penalty would still only apply to the $5,000.

To learn more, read Correcting Ineligible IRA Contributions - Part 1, Part 2 and Part 3.

This question was answered by Denise Appleby.

Hot Definitions
  1. Drawdown

    The peak-to-trough decline during a specific record period of an investment, fund or commodity. A drawdown is usually quoted ...
  2. Inverse Transaction

    A transaction that can cancel out a forward contract that has the same value date.
  3. Redemption

    The return of an investor's principal in a fixed income security, such as a preferred stock or bond; or the sale of units ...
  4. Solvency

    The ability of a company to meet its long-term financial obligations. Solvency is essential to staying in business, but a ...
  5. Dilution

    A reduction in the ownership percentage of a share of stock caused by the issuance of new stock. Dilution can also occur ...
  6. Agency Problem

    A conflict of interest inherent in any relationship where one party is expected to act in another's best interests. The problem ...
Trading Center