What Is a 401k Refund and Why Did I Receive One?

Receiving an unexpected check from your 401(k) plan can be confusing. This payment is not a bonus or a typical tax refund, but rather a “corrective distribution.” It represents a refund of excess contributions made to your account. Plan administrators issue these refunds to ensure the 401(k) plan complies with federal regulations and maintains its tax-qualified status.

Reasons for Receiving a 401k Refund

There are two primary reasons you might receive a 401(k) refund, both related to contribution limits. The first and most common reason is that your employer’s plan failed its annual nondiscrimination testing. These tests are required by the IRS to ensure that a 401(k) plan does not disproportionately benefit Highly Compensated Employees (HCEs) over Non-Highly Compensated Employees (NHCEs). An HCE is defined as an individual who owns more than 5% of the company or earned above a certain threshold, which is $160,000 for 2025.

To verify fairness, plans undergo the Actual Deferral Percentage (ADP) and Actual Contribution Percentage (ACP) tests. The ADP test compares the average salary deferrals of HCEs to those of NHCEs, while the ACP test does the same for employer matching and after-tax contributions. If the contribution rates of HCEs exceed those of NHCEs by more than a legally permitted margin, the plan fails the test and must refund the excess contributions to the HCEs.

The second reason for a refund is contributing more than the individual annual limit set by the IRS. For 2025, this limit is $23,500. Individuals age 50 and over can make additional “catch-up” contributions of $7,500. For those aged 60, 61, 62, and 63, a higher catch-up limit of $11,250 may be permitted, depending on the plan’s rules.

This limit applies to you as an individual, aggregating all contributions across all 401(k) or similar plans you participate in. If you change jobs during the year and contribute to two different 401(k) plans, you might inadvertently exceed this personal limit. When this happens, you must notify one of your plan administrators to request a corrective distribution of the excess amount to avoid negative tax consequences.

Tax Consequences of a 401k Refund

The tax implications of a 401(k) refund depend on when the excess contribution is returned to you. For pre-tax contributions, the principal amount is considered taxable income in the year the contribution was made, not the year you receive the refund check. This rule applies as long as the corrective distribution is made by April 15 of the year following the over-contribution.

Any investment earnings generated by the excess contribution are also returned to you as part of the refund. These earnings are taxable as ordinary income in the year you receive them. So, if an excess contribution was made in 2024 and returned in 2025, the earnings are taxable for the 2025 tax year.

The 10% early withdrawal penalty for participants under age 59 ½ does not apply to timely corrective distributions of excess contributions. As long as the refund is processed within the IRS-mandated timeframe, which is by April 15 of the following year, you will not be subject to this additional tax.

Understanding Your Corrective Distribution and Form 1099-R

When you receive a 401(k) refund, it will be accompanied by a letter from your plan administrator explaining the specific reason for the corrective distribution. This communication provides the context for the refund and the tax forms you will receive.

You will receive IRS Form 1099-R, which details the amount of the distribution and how it should be reported for tax purposes. Box 1 shows the gross distribution amount, which is the total of your returned contribution plus any earnings. Box 2a indicates the taxable amount of the distribution.

Box 7 contains the distribution code that tells the IRS why the money was distributed. For a corrective distribution of excess contributions from the prior year, you will often see code ‘P’, which signifies that the taxable amount is taxable in the prior year. If the refund and earnings are taxable in the current year, you might see code ‘8’. If the refund is from a designated Roth account, code ‘B’ will be used.

How to Report the Refund on Your Tax Return

The information on Form 1099-R dictates how you report the refund on your federal income tax return, Form 1040. The taxable amount from Box 2a of the 1099-R is reported on the lines for pensions and annuities.

If you receive a corrective distribution for an excess contribution made in the previous year, you may need to amend that prior year’s return. If you have already filed your tax return for the year of the over-contribution, you will need to file Form 1040-X to include the refunded principal as additional income.

The earnings portion of the refund is taxable in the year it is received and is reported on that year’s tax return. You may receive two separate Form 1099-R documents in this situation: one for the returned contribution and another for the earnings.