What Happens When You Over Contribute into IRAs?

You always hear that you need to “Save, Save, Save” for retirement, but is it really possible to save too much? When it comes to contributing to your IRA, it can.

Individual Retirement Accounts (IRAs) have annual contribution limitations that indicate how much you’re allowed to contribute. Anyone, regardless of income level can contribute to Traditional IRAs, but in addition to having a maximum contribution amount for a Roth IRA, you’ll also need to have annual income within limitations in order to contribute, at all.

It’s always best to prevent over contributions into IRAs, whether you have a Roth IRA or a Traditional IRA, so consult a tax professional if you have any questions about your allowed contribution amounts each year. If you do contribute more than you are supposed to, also consult a tax professional for advice on how to remove the overage to avoid penalties and tax implications.

Roth IRAs

For Roth IRAs, you can contribute $5,000 per year if you’re under the age of 50 and as much as $6,000 annually if you’re over the age of 50. The contribution limitation is adjusted based on your annual adjusted gross income, however. If you make between $105,000 and $120,000 a year as a single tax filer, you can make partial contributions based on the amount you earn. If you are married and make more than $166,000 but less than $176,000 you can also make partial contributions. If you make more than the stated annual income amounts, you’re not allowed to contribute to an IRA at all.

What if You Contribute Too Much in a Roth IRA?

If you contribute more than you are allowed into a Roth IRA, you can withdraw the amount over the limit by the date you file your income tax return. If you fail to withdraw the amount you’ve over contributed, you will have to pay 6% excise tax on the overage amount (and any earnings it has made).

Traditional IRA

Contributes to Traditional IRAs are tax deductible, and directly reduce the amount of taxable income you have in the year that you make your contributions.

Like a Roth IRA, you can contribute up to $5,000 per year, although if you earn less than $5,000 in a year you’re allowed to contibute 100% of your earned income (whichever is less). If you’re over the age of 50, you can make catch-up contributions of $1,000 for years 2009 and 2010.

What if You Contribute Too Much in a Traditional IRA?

If you contribute more than you are allowed into a Traditional IRA, you can withdraw the excess contribution before you file your income taxes without penalty. If you don’t realize the over contribution until after you’ve filed your taxes, however, you will withdraw the excess amount and be penalized 6% for each year the money remained in your account when it should not have been there. You’ll need to file IRS Form 5329 when you withdraw your funds and it can be treated as an “early withdrawal”. Under Traditional IRA early withdrawal rules, you could be taxed twice on the withdrawal.

How Does this Happen?

The most common time I see someone over contribute to an IRA (Roth or Tradtional) is when they have IRA’s at two different locations; for example, a bank at a brokerage firm. You have to understand that just because you have multiple IRA’s at different financial institutions doesn’t mean you can contribute $5,000 to each. That same rule applies to having both Traditional and Roth IRA’s.

Another time I see this occur is when someone has automatic contributions being directly deposited into their IRA. Either they forget the amount or just lose track of how much they’ve contributed (you should be always be able to check with your IRA custodian to see how much you’ve contributed). In the event that this occurs, you can always apply the excess contributions to a future tax year so as long as the amount does not exceed the contribution limit for next year, too. Keep in mind though that the 6% excess tax may still apply.

Keep Track of How Much You Put Into Your IRA

It goes without saying that the easiest way to prevent putting too much into your Roth and Traditional IRA’s is to keep track of how much you’ve added. As I’ve mentioned before, even if you lose track, your IRA custodian should have a record of how much you’ve contributed for the current tax year.

Creative Commons License photo credit: Truthout.org

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Comments | 4 Responses

  1. Andy Anderson says

    My wife and my traditional IRA’s are locked in at a minimum interest rate of 4% which is very good for these times. After reading your article I was wondering if it would be worth the hassle to put more in at the beginning of the year and to take it out before tax time each year…Andy

      • JJ says

        Jeff –
        I have a similar question to Andy and maybe I can explain it a bit better. In your article, you stated that there is no penalty if you “over-contribute” above the 5K limit, as long as you withdraw that overage before you file your taxes in April. That being said, could I contribute 10K at the beginning of the year, possibly enjoy earnings of 4% or higher (or lower if the market drops) on that 10K, then withdraw the original overage of 5K just before my April tax filing of the next year? In other words, i’d enjoy the benefits of investing for the year, but then for filing purposes remove the original 5K overage.

  2. Jeff says

    The catch with going over your contributions for the year is that while your contributions over the maximum can we withdrawn at the end of the year, any earnings on that amount will need to be withdrawn as well to avoid IRS penalties. However, the earnings that are withdrawn will be treated as an early withdrawal penalizing you for 10% of the amount withdrawn.

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