According to IRS Publication 590, you can contribute to the prior year up until the tax filing deadline and you can also contribute for the current year. Your current year IRA contribution is something to consider when deciding what to do with any tax refunds you receive.
While it seems like IRA contributions are the simplest aspect of managing your self-directed IRA, there are still things you need to know about them to avoid IRS penalties. For example, you can make contributions to a Traditional or Roth IRA at any age, but there are contribution limits.
It is important to remember Roth IRAs have income qualifications, while Traditional IRAs do not. When it comes to contributions, a unifying factor is you need to have earned income. The exception to these rules is a spousal IRA contribution.
The importance of recordkeeping
Good recordkeeping is crucial for Equity Trust clients. Use deposit coupons to differentiate what incoming funds represent. This is important because Equity Trust receives funds for a variety of reasons: proceeds of a sale, investment income such as a loan or rent payments, rollovers, transfers, and personal contributions.
Remember, rollovers and contributions have tax reporting implications and specific guidelines. We need to know how to identify and handle your funds to make sure your account accurately reflects all activity.
It is good practice to ensure all your financial records are correct and up to date. Reconciling account statements, keeping track of income and expenses, and monitoring account performance are just a few aspects to be aware of.
Equity Trust recognizes self-directed IRA owners play a more hands-on role with their account and provides tools to account holders to manage their accounts. Poor recordkeeping can potentially lead to overcontributing.
Preventing excess contributions
Prevention is one of the best ways to reduce avoidable errors with your IRA. Excess contributions, also known as ineligible contributions, need to be avoided and corrected if they occur.
An ineligible or excess contribution happens when you contribute more than the allowable amount based on:
- Year: The limit for the prior year may be lower than the limit for the current year. You may not realize how much you contributed during the year and more than allowed.
- Income Limit: Roth IRAs have MAGI-based contribution limits/filing status criteria. If you contribute more than your income bracket allows, this is an excess contribution.
While rollovers do not count as an IRA contribution, they have their own rules, including items on ineligible/excess contributions.
Get more details on ineligible rollover amounts in IRS Publication 590 and this IRS page.
What happens if you overcontribute to a Roth IRA or Traditional IRA?
No matter the retirement account type – SEP IRA, Roth IRA, or Traditional IRA – if you have over-contributed, there is a time window to make a correction without penalty. You must remove the excess contribution amount, along with any earnings from those funds by your tax filing deadline—typically April 15. If you filed your taxes by this deadline, you automatically have six additional months to remove the excess.
It’s important to note you won’t be taxed on the distribution of the excess contribution if you correct the situation in a timely manner, but the taxable environments of your plan will go into effect if you also need to distribute any earnings from the excess funds.
This distribution includes being subject to any penalties for premature withdrawal of funds, if applicable. For every year the excess/ineligible contribution remains in the account, those funds are subject to a 6-percent penalty that accrues for every year they remain in the account.
Final considerations
Consulting with a tax advisor or CPA can prove beneficial if you find yourself in an excess/ineligible contribution situation. Once you know the action you want to take to correct the matter, reach out to our service team for assistance in completing the necessary paperwork to remedy the situation.
