“The IRS, the Code, and regulations thereunder, have always been clear, at least until recently: an individual has up until his or her return deadline, including extensions, for the year in which the excess IRA contribution was made to distribute the excess to avoid the amount distributed from being treated as a taxable distribution and subject to the 6 percent tax on excess IRA contributions.
The IRS has indicated a desire to change the determination of the year in which an excess is treated as made and hence the due date of the year in which it must be corrected in (or by) to avoid the 6 percent tax on excess contributions. And it appears that this change has already been implemented. The new interpretation would treat all excesses made for a contribution year as having been incurred during that contribution year (the year ‘for which’ it is made) rather than the year ‘in which’ the actual contribution giving rise to the excess was made.”
EXECUTIVE SUMMARY:
The IRS, the Code, and regulations thereunder, have always been clear, at least until recently: an individual has up until his or her return deadline, including extensions, for the year in which the excess IRA contribution was made to distribute the excess to avoid the amount distributed from being treated as a taxable distribution and subject to the 6 percent tax on excess IRA contributions.[i]
The IRS has indicated a desire to change the determination of the year in which an excess is treated as made and hence the due date of the year in which it must be corrected in (or by) to avoid the 6 percent tax on excess contributions.[ii] And it appears that this change has already been implemented. The new interpretation would treat all excesses made for a contribution year as having been incurred during that contribution year (the year “for which” it is made) rather than the year “in which” the actual contribution giving rise to the excess was made.
COMMENT:
Thus, for an excess contribution made in 2022 for the prior year (2021), a correcting distribution would have to be made on or before the 2021 tax return due date as described above to avoid the 6 percent tax on excess contributions. The IRS’s new interpretation treats all excess IRA contributions made for a year (including contributions of excess amounts made after the end of the year) as being contributed during the same (earlier) tax year for correction purposes (see Note 1).
If formally adopted, the proposed (but not yet issued) rule might also have the effect of shortening the statute of limitations in favor of the taxpayer, but accelerating the year by which the excess would have to be corrected. It should be noted that the instructions to Form 8606, Nondeductible IRAs (2020), have recently been modified, and in the authors opinion, prematurely, to reflect the “for which” year interpretation (see Note 2). Similarly, the instructions to Form 5329, Additional Taxes on Qualified Plans (Including IRAs) and Other Tax-Favored Accounts (2020), were also recently modified and now state: “The total contributions to your traditional IRAs for the tax year for which the excess contributions were made weren’t more than the amounts shown. …” (see page 5). {Emphasis added.}
On the other hand, for example, the 1994 version of Publication 590, Individual Retirement Arrangements (IRAs), stated:
You will not have to pay the 6% tax if you withdraw an excess contribution made during a tax year and interest or other income earned on it by the date your return for that year is due, including extensions. {Emphasis added.}
This interpretation continued through the 2019 version of Publications 590-A, Contributions to Individual Retirement Arrangements (IRAs), which also uses the phrase “made during a tax year” in describing the timely withdrawal of excess IRA contributions (see page 33). However, the 2020 version of the publication now states:
In general, if the excess contributions for a year aren’t withdrawn by the date your return for the year is due (including extensions), you are subject to a 6% tax” (see page 33). {Emphasis added.}
The IRS does not provide any example of an excess IRA contribution being made after the end of the year or explain how a correcting distribution is to be reported to the taxpayer and the IRS. The 2020 version of Publication 590-A also states:
You must complete your withdrawal by the date your tax return for that year is due, including extensions.” {Emphasis added.}
As a practical matter, the IRS’s “for which” interpretation makes sense. It also comports to the IRA contribution timing rule in Code Section 219(f)(3) which states, “For purposes of this section, a taxpayer shall be deemed to have made a contribution to an individual retirement plan on the last day of the preceding taxable year if the contribution is made on account of such taxable year and is made not later than the time prescribed by law for filing the return for such taxable year (not including extensions thereof).” While IRS publications may be instructive for purposes of setting forth IRS policies and interpretations of tax law, they are not binding precedent and are generally not given meaningful weight by courts.[iii] The IRS does not usually take litigation positions in conflict with its published materials. Thus, for tax years before 2020, it could still be argued (based on IRS publications) that an excess IRA contribution made after the end of the year that is treated as made for the prior year would not be taxable, nor subject to the 6 percent penalty, if distributed by the due date, including extensions, for that (later) year.
Note 1. The timely distribution must still include the earnings (or loss) attributable to the returned contribution. No change is being proposed to the rule that earnings are “includible in gross income for the taxable year in which the contributions were made.” [Treas. Reg. §1.408A-6, Q&A-1(d) (T.D. 8816, 64 Fed. Reg. 5597-5611, Feb. 4, 1999)]
Note 2. Code Section 408(d)(4) reads as follows:
(4) Contributions returned before due date of return—Paragraph (1) does not apply to the distribution of any contribution paid during a taxable year to an individual retirement account or for an individual retirement annuity if—
(A) such distribution is received on or before the day prescribed by law (including extensions of time) for filing such individual’s return for such taxable year,
(B) no deduction is allowed under section 219 with respect to such contribution, and
(C) such distribution is accompanied by the amount of net income attributable to such contribution.
In the case of such a distribution, for purposes of section 61, any net income described in subparagraph (C) shall be deemed to have been earned and receivable in the taxable year in which such contribution is made. Emphasis added.
Reprinted with permission from Gary S. Lesser.
Originally published by LISI Employee Benefits & Retirement Planning Newsletter #758 (May 6, 2021) at http://www.leimbergservices.com. Copyright 2021 Gary S. Lesser. All rights reserved. Reprinted with permission.
[i] I.R.C. §§ 408(d)(4), 4973(a), Treas. Reg. § 1.408-4(c)(2)(i).
[ii] See Treasury/IRS RIN 1545-BL99 (NPRM REG-107302-14); Fall 2018 Unified Agenda of Regulatory and Deregulatory Actions, available at https://www.reginfo.gov/public/do/eAgendaMain# (select “Department of the Treasury” in drop down menu); see “Reporting Change for Some Excess IRA Contributions” (Vol. 29, Issue 3), IRA Plus (PenServ Plan Services, Oct. 2018) and “Continuation of the “In Which/For Which” Saga The New Rules for Correcting IRA Excesses in 2018” (Vol. 28, Issue 1), IRA Plus (PenServ Plan Services, Aug. 2017), available through https://www.penserv.com; Susan Diehl, “The New Rule for Correcting IRA Excesses in 2018,” National Tax-Deferred Savings Association (NTSA), available at https://www.ntsa-net.org/new-rule-correcting-ira-excesses-2018 (visited on May 10, 2021).
[iii] Bobrow v. Comm’r, T.C. Memo. 2014-21 (2014).
