An excess contribution results when a taxpayer has contributed more than the annual limit to a traditional IRA or a Roth IRA. If any part of the excess contribution is allowed to remain in the IRA past the due date for correcting the excess, it is subject to a 6% excise
tax (6% penalty tax). The 6% penalty tax applies each year the excess is allowed to remain in the IRA.
To correct an excess contribution, the excess contribution must be withdrawn by the due date for filing the return, including extensions. The withdrawal of the excess contribution is considered tax-free if:
• The taxpayer does not take a deduction for the contribution, and
• The taxpayer withdraws any interest or other income earned on the contribution while it was part of the IRA. For this purpose, any loss on the contribution is also taken into consideration when calculating the amount to withdraw.
If more than one contribution is made during the year, the last contribution is considered to be the one that is withdrawn first for purposes of calculating net income on earnings.
If the excess contribution is withdrawn after the due date (or extended due date), the withdrawal is generally taxable. However, the withdrawal is not taxable if both of the following conditions are met:
• Total contributions (other than rollover contributions) for the tax year were not more than the contribution limit that is not based on the taxpayer’s compensation ($5,500/$6,500 limits that apply for 2016), and
• The taxpayer did not take a deduction for the excess contribution being withdrawn.
Another way to handle an excess contribution is to pay the 6% penalty on the excess and leave it in the IRA. In the following
year, under contribute to the IRA for that year and apply the prior year excess contribution to the current year contribution. If the excess contribution carryover is still in excess of the contribution allowed for the carryover year, pay the 6% penalty on the difference
and carry the remainder over to the next year. Keep doing this until the excess is used up.
The IRS mails millions of notices and letters to taxpayers every year. This can be extremely upsetting when receiving this form of communication, whether it is from the IRS or any other taxing authority. Here are some suggestions to help formulate specific action plan for any correspondence received from the IRS (or from your state or local taxing authority).
Don’t Panic: You can usually deal with a notice simply by responding to it. You should immediately contact your tax adviser to discuss this matter in more detail. Waiting or ignoring the notice can only compound and complicate your tax problems. Each notice has specific instructions, so read your notice carefully because it will tell you what you need to do. Follow the instructions very carefully and give a specific and detailed response to the tax issue in question.
Your notice will likely be about changes to your account, taxes you owe or a payment request. However, your notice may ask you for more information about a specific issue. Only respond to the particular issue and do not provide or discuss issues that are not being raised by the IRS. Do not assume that the taxes owed are correct. In many cases, the IRS calculates taxes without all the relevant facts.
If your notice says that the IRS changed or corrected your tax return, review the information and compare it with your original return. Just because the IRS says you owe taxes does not mean that they are correct.
If you don’t agree with the notice, you must respond within the time limit set out in the notice. Write a letter that explains why you disagree, and include information and documents you want the IRS to consider. Mail your response with the contact stub at the bottom of the notice to the address on the contact stub. Always include a copy of the notice they sent you. If a fax number is provided, use it. Allow at least 30 days for a response from the IRS. The safest route is to have your tax adviser craft a well-conceived response that is supported with references to the relevant facts of your situation and the tax law in question.
If you agree with the notice, you usually don’t need to reply unless it gives you other instructions or you need to make a payment. If you choose not to respond to the IRS be sure you understand the IRS letter and its implications, because the next step from them is usually an assessment of additional taxes.
For most notices, you won’t need to call or visit a walk-in center. If you have questions, call the phone number in the upper right-hand corner of the notice. Be sure to have a copy of your tax return and the notice with you when you call. Waiting time could easily exceed an hour. Be careful when talking with the IRS; they are not your friend. Only speak to the specific issues in question.
Warning: Be alert for tax scams: The IRS sends letters and notices by mail. They don’t contact people by email or social media to ask for personal or financial information.
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The Internal Revenue Service issued a new warning Friday to taxpayers about bogus phone calls from IRS impersonators demanding payment for a non-existent tax that they call the “federal student tax.” The IRS noted that scammers continue to use varied strategies to trick people, in this case students. In this newest twist, they try to convince people to wire money immediately to the scammer. If the victim does not fall quickly enough for this fake “federal student tax,” the scammer threatens to report the student to the police. “These scams and schemes continue to evolve nationwide, and now they’re trying to trick students,” said IRS Commissioner John Koskinen in a statement. “Taxpayers should remain vigilant and not fall prey to these aggressive calls demanding immediate payment of a tax supposedly owed.”
On Tuesday, the Treasury Inspector General for Tax Administration announced the arrests of five IRS phone scammers in Miami. Scam artists frequently masquerade as being from the IRS, a tax company and sometimes even a state revenue department. Many scammers use threats to intimidate and bully people into paying a tax bill, the IRS noted. They may even threaten to arrest, deport or revoke the driver’s license of their victim if they don’t get the money.
Some examples of the varied tactics seen this year are:
- Demanding immediate tax payment for taxes owed on an iTunes gift card.
- Soliciting W-2 information from payroll and human resources professionals
- “Verifying” tax return information over the phone
- Pretending to be from the tax preparation industry
The IRS is urging taxpayers to stay vigilant against these calls and to know the telltale signs of a scam demanding payment.
The IRS noted that it will never:
- Call to demand immediate payment over the phone, nor will the agency call about taxes owed without first having mailed you a bill.
- Threaten to immediately bring in local police or other law-enforcement groups to have a taxpayer arrested for not paying.
- Demand that a taxpayer pay taxes without first giving the opportunity to question or appeal the amount owed.
- Require a taxpayer to use a specific payment method for taxes, such as a prepaid debit card.
- Ask for credit or debit card numbers over the phone.
If taxpayers get a phone call from someone claiming to be from the IRS and asking for money and the taxpayer doesn’t owe taxes, here’s what to do:
- Do not give out any information. Hang up immediately.
- Contact TIGTA to report the call. Use the “IRS Impersonation Scam Reporting” web page or call (800) 366-4484.
- Report it to the Federal Trade Commission by visiting FTC.gov and clicking on “File a Consumer Complaint.” Please add “IRS Telephone Scam” in the notes.
- If you or a client thinks taxes are owed, call the IRS directly at 1-800-829-1040.
What should you do if you receive a tax refund check from the IRS that is unexpected, or that you suspect is incorrect or otherwise in error. Do not cash the check. Instead, contact the IRS to determine the nature of the check and to confirm its propriety. Any refund that you receive by mistake must be returned to the IRS, to help insure that you won’t be assessed any unnecessary interest or penalties.
If you receive an erroneous paper refund check from the IRS:
- Do not cash the check.
- Write or type “VOID” in the endorsement section on the back of the check.
- Send the check to the correct IRS location listed here. The location is based on the city on the bottom text line in front of the words TAX REFUND, written on the refund check.
- Do not staple, bend, or paper clip the check.
- Include a note stating “Return of erroneous refund check because (and give a brief explanation of the reason for returning the check).”
You may also return the check in person, to your local IRS Taxpayer Assistance Center (“TAC”).
If you have already cashed the check, then you will need to repay the funds to the IRS as soon as possible. Follow these steps:
- Submit a check for the refunded amount to the appropriate IRS location listed here. The location is based on the city on the bottom text line in front of the words TAX REFUND, written on the refund check. If you no longer have access to a copy of the check, call the IRS toll-free at 800-829-1040 and explain to the assistor that you need information to repay a cashed refund check.
- Write on the check/money order: Payment of Erroneous Refund, the tax period for which the refund was issued, and your taxpayer identification number.
- Include a brief explanation of the reason for returning the refund.
- You may instead bring the repayment check to your local TAC.
It is important to note that repaying an erroneous refund in this manner may result in interest and/or penalties due to the IRS.
There is no guarantee that returning an uncashed refund check to the IRS will allow you to avoid interest and penalties. However, it is much more likely that IRS will assess interest and penalties if you cash the check and attempt to repay the funds later. Returning or repaying the refunded amount in a timely manner will also help mitigate any potential assessments.