Removal of excess Roth contribution that has a loss
I am trying to calculate the number of shares I need to move out of an account that has a loss in 2008. How do you move the shares and take into consideration there has been a loss? I am moving them to an individual account and do not want to move nay more than is necessary. Do you use the average cost per share and then notate the loss on the distribution form? Can the client then calim the loss on his taxes?
Permalink Submitted by Alan Spross on Mon, 2009-03-30 20:19
The IRA custodian will usually handle the earnings calculation, but they are not legally required to. You could check their math or calculate a suggested amount for distribution using the worksheets on p 31 or 33 of Pub 590. You could either ask for the excess contribution to be returned OR recharacterized as a (likely non deductible) TIRA contribution. The (negative) earnings calculation would be the same either way. Once the dollar amount that needs to come out of the Roth is calculated, you can determine which assets you want to move that total up to that amount. If recharacterized as a non deductible TIRA contribution, Form 8606 needs to be filed to report the added basis in the TIRA.
One reason to let the IRA custodian do the calculation is the constantly changing account value during the time period between your calculation and the actual recharacterization or distribution of the excess amount.
There is no deduction for the loss unless the client closes all of his Roth IRAs in the same year. The client should also attach an explanatory statement to his 1040 explaining the correction of the excess contribution. The 1099R will not be issued until next January.
Permalink Submitted by mk foss on Mon, 2009-03-30 20:49
One other issue that you should be aware of is that the Roth contributions are always handled in terms of dollars and not shares.
When the calculation is complete, a dollar amount is transferred back to the originating account (not a taxable account). The amount transferred back could be in kind (shares) but doesn’t have to be.
Permalink Submitted by Samuel Critz on Tue, 2009-03-31 01:04
To follow up, if I move out the shares and there is a loss on the shares, do you record a negative number on the earnings line of the form? Also how do you calculate the cost basis of the shares?
For example, if the person makes monthly purchases into the Roth and at the end of the year contributed 1000 too much, could you get an average cost per share? Then move $700 worth of shares out of the account and record $300 of negative earnings if that is the calculated loss.
Permalink Submitted by Alan Spross on Tue, 2009-03-31 01:22
The cost basis of the shares you withdraw equal the value of those shares upon distribution. You will have to divide the total amount of the distribution by the number of shares distributed to get the cost basis per share to use in your taxable account. But there is no current deduction for losses suffered while the contribution remained in the Roth IRA. In your example, the 1099R reporting your corrective distribution of a 1000 excess contribution would show an amount distributed. If more than 1000, you have taxable earnings, but if less than 1000, there is no earnings and also no deduction. You would just enter the gross amount distributed on line 15a of Form 1040, and leave 15b blank unless there were positive earnings.
Remember, there are no capital gains or losses for any investment results occurring in an IRA of any type. But when you take a distribution, you report it subject to IRA distribution rules which vary considerably between a TIRA and a Roth IRA. Corrective distributions also have special rules reflecting whether you deducted them or not, and whether there were positive or negative earnings in the entire IRA during the period it held your contribution.
The one exception is when you close all your Roth IRAs totally in the same year. In that case, you might qualify for a misc itemized deduction for the amount your contributions over the years exceeded the amount you received. This deduction is subject to 2% of AGI limit, and of course you must be able to itemize to use it, and you cannot be subject to AMT or you lose the deduction.
Probably posted too much detail, so if you have more questions, please post them.
Permalink Submitted by Samuel Critz on Tue, 2009-03-31 01:38
Thanks for the detail. One more question. If the excess contribution is $1000 and the account has gone down in value, do I still have to take out $1000 of worth shares on the distribution date or can I take out the shares that the $1000 bought. I am not trying to take a deduction for the $300 loss, only trying to not have to pull more shares than the original $1000 purchased. Does that make sense?
Permalink Submitted by Alan Spross on Tue, 2009-03-31 02:57
The formula for the calculation to determine the allocated earnings or loss is included in the following link:
http://www.retirementdictionary.com/definitions/netincomeattributablenia
I do not know if you made your contributions into a new Roth IRA, or into a pre existing Roth IRA that held other investments. If it went into a new Roth, then there is no calculation needed because the account value itself +/- the contributions made determines the earnings or loss. But if you contributed into a Roth with other assets already there, the investment results must include the entire account, not just the results of the particular assets you contributed. If the overall results are that the account went down between the time of your contribution and your distribution, the dollar amount that comes out will be less than 1000. The IRS only cares about the dollar amounts, note the particular investments, therefore once the dollar amount that goes back (eg $700 due to $300 loss) is determined, you can decide which assets will compose that $700.
The effect of the above is that if the overall Roth went down more than 30%, you would have to send back less than all the shares your 1000 purchased. However, if the actual shares of the contribution investment went down more than 30%, you could send them all back and it would not be enough to cover the $700. You would then have to make up the difference with cash or some other holding in your Roth, so that the amount that was transferred to the TIRA totalled up to $700 at the time of the recharacterization transfer. You might tell the IRA custodian to transfer “A” shares up to the full amount if needed, and if addtional assets are needed to make up the difference with “B’ shares or cash if you have a money market position. That way, there is no need to check back with you to complete the process, and it is not a good idea to leave it up to the custodian which assets to choose.
Permalink Submitted by William Hager on Sat, 2009-04-04 23:14
Basically, the Roth custodian will compute the amount to be withdrawn from the account. It can be deposited anywhere, not just the originating account, but taxes could be involved if the original amount was a rollover (of any kind, vice a contribution), and it does not return to the original account. You will receive a 1099-R in Jan/Feb 2010 documenting this transaction, which probably means you will need to amend your 2008 tax return to account for it.
I’m in precisely your situation. I am using TurboTax, and in researching this problem, discovered an easier method, per TurboTax advice, which will allow you to avoid the need to submit an amended 2008 return. Per TurboTax, It involves creating a 1099-R, as identical as possible to the one your custodian will send. Mark Box 1 with the full contribution amount. Nothing in Box 2 (since there are no earnings). Put codes P and J in Box 7. Ensure this form is designated for 2009, not 2008. Make sure you do not include your 2008 contributions on your return for 2008, even though they were in the Roth on 31 Dec 2008 (since you have withdrawn them prior to the tax return due date).
I’m not a tax expert, but this works for me in TurboTax 2008. I ran the error check, and I checked all the forms and numbers. and it looks ok. However, I suggest strongly that you either do more research or consult a tax preparation expert. There’s more to this than the summary solution I just outlined. Good luck.