What Is an Excess Contribution and How Do You Fix It?

An excess contribution occurs when an amount contributed to a financial account surpasses a predetermined allowable limit. This concept is particularly relevant within tax-advantaged savings vehicles, such as individual retirement arrangements (IRAs), 401(k) plans, and health savings accounts (HSAs). Understanding excess contributions is important for individuals to maintain compliance with tax regulations and to avoid potential penalties that can erode savings.

What Constitutes Excess Contributions

An excess contribution arises when the amount deposited into a tax-advantaged account exceeds the limits set by tax law. For Individual Retirement Arrangements (IRAs), the annual contribution limit for 2025 is $7,000, with an additional $1,000 catch-up contribution permitted for those aged 50 and over, totaling $8,000. Exceeding this dollar amount, or contributing more than one’s taxable compensation for the year, results in an excess. For Roth IRAs, contributing above income phase-out limits can also lead to an excess, even if the dollar amount is within the general limit.

For 401(k) plans, the elective deferral limit for 2025 is $23,500, with an additional catch-up contribution of $7,500 for individuals aged 50 and older. Contributing more than these amounts, often due to contributions to multiple employer plans or errors in payroll deductions, creates an excess deferral. Health Savings Accounts (HSAs) also have annual contribution limits, which vary based on whether coverage is for an individual or a family, and exceeding these amounts results in an excess contribution, and can also include catch-up contributions for those aged 55 and over.

Other scenarios that can result in an excess contribution include making an IRA contribution without sufficient earned income, or an ineligible rollover from another retirement account. Identifying these specific situations early is important to mitigate the financial impact.

Tax Penalties for Excess Contributions

For IRAs, a 6% excise tax is imposed on the excess amount for each year it remains in the account. The tax cannot exceed 6% of the combined value of all the individual’s IRAs at the end of the tax year. This penalty applies annually until the excess contribution is removed or properly absorbed.

For 401(k) plans, excess deferrals that are not timely distributed are included in the participant’s taxable income for the year contributed and can be taxed a second time when ultimately distributed from the plan. If the excess is not corrected by the tax filing deadline, including extensions, the participant may face double taxation on the overcontribution. Additionally, any earnings on uncorrected excess contributions may be subject to a 10% early distribution penalty if the individual is under age 59½.

Health Savings Account (HSA) excess contributions are also subject to a 6% excise tax on the uncorrected amount. This penalty applies each year until the excess is removed.

Correcting Excess Contributions

Correcting an excess IRA contribution generally involves withdrawing the excess amount along with any net income attributable (NIA) to that excess. To avoid the 6% excise tax, this withdrawal must typically occur by the tax-filing deadline, including extensions, for the year the contribution was made. The earnings associated with the excess contribution are taxable in the year the excess contribution was made, but are not subject to the 10% early withdrawal penalty if corrected timely. If the excess is not removed by the tax deadline, the 6% penalty will apply for each year the excess remains.

Another method for correcting an excess Roth IRA contribution is recharacterization, which involves transferring the contribution and its earnings to a traditional IRA. This must also be completed by the tax-filing deadline (plus extensions) for the year of the contribution. The recharacterization is reported to the IRS, and the custodian typically calculates the net income attributable to the excess. If the excess is not withdrawn or recharacterized, it can sometimes be applied to a future year’s contribution limit, but the 6% penalty still applies for the year the excess occurred.

For 401(k) plans, excess deferrals must be distributed from the plan by April 15 of the year following the year the deferral was made. This corrective distribution must include any earnings attributable to the excess deferral. The plan administrator is responsible for processing this distribution and may issue a corrected Form W-2 to reflect the taxable nature of the excess. For HSAs, similar to IRAs, the excess contribution and any earnings should be withdrawn by the tax deadline, including extensions.

For IRAs and HSAs, excess contributions and their corrections are reported on IRS Form 5329. When an excess contribution is distributed, the custodian will typically issue Form 1099-R to report the withdrawal. This form indicates the nature of the distribution, including if it’s an excess contribution or earnings, using specific codes.

Preventing Excess Contributions

Individuals should track deposits to all their IRAs, 401(k)s, and HSAs to ensure the combined amounts do not exceed annual limits. This is particularly important for those contributing to multiple retirement accounts or changing jobs during the year. Staying informed about the annually adjusted contribution limits for each account type is also important.

Understanding income limitations, especially for Roth IRAs, can help avoid inadvertent excess contributions due to exceeding income phase-out thresholds. If income is close to or exceeds these limits, consulting with a financial advisor can provide clarity on eligibility. Coordinating contributions across various plans, such as an employer-sponsored 401(k) and a personal IRA, helps prevent accidental over-contributions that might arise from separate contribution streams.

Setting up payroll deductions carefully can help manage contributions to employer-sponsored plans like 401(k)s. Adjusting these deductions as the year progresses, especially if there are changes in compensation or other contributions, can prevent exceeding the annual maximum. Acting quickly to correct any potential over-contributions immediately upon discovery also helps minimize penalties, even if a formal correction process is required.