Keep in mind that you'll have to pay a 6% penalty every year until the franchise is absorbed or corrected. In the case of a Roth IRA, excessive contributions would be subject to a tax of 6% per annum, as long as the excess amounts remain in the Roth IRA. However, unlike a traditional IRA, no early distribution penalty or 10% tax would be imposed on the amount of the excess contribution. In addition, profits from excessive contributions to the Roth IRA would remain in the Roth IRA.
The numerator of the fraction is the adjusted IRA balance immediately before the corrective distribution (the adjusted closing balance) minus the adjusted balance immediately before the excess contribution (the adjusted initial balance). A strategy that has been gaining some popularity lately revolves around the concept of making excessive contributions to a Roth IRA to generate additional tax-free returns in the Roth IRA. You can withdraw part or all of your Roth IRA contributions up to six months after the original due date on your return. A failed Roth conversion is considered an ordinary distribution from a traditional plan or IRA, followed by a regular independent contribution to a Roth IRA.
Relief is also provided in the form of a limited distribution in dollars to taxpayers who erroneously determine the amount of an accrued contribution to a traditional IRA based on the erroneous information provided in subtitle F of the Code (e.g., both methods of elimination avoid excise tax for current and future years and avoid the distribution and taxation of income earned by the traditional IRA by contributing in excess). For a Roth IRA, the consequences of an ordinary distribution are generally more favorable than for a traditional IRA. Consequently, the transaction is considered a valid tax-free transfer from a qualified plan to an inherited IRA. The regulations indicate that requalifications that include several combinations of traditional IRA, SIMPLE IRA, SEP and Roth IRA are allowed if the rules are followed, at least when the same taxpayer is the effective beneficiary of each entity.
However, there are some situations in which requalifying a failed transfer to a traditional IRA will eliminate an excessive contribution. The taxpayer receives a distribution from their first traditional IRA and transfers the distributed funds to their second traditional IRA within a 60-day period. The taxpayer includes in their gross income the revenue portion of the distribution of a traditional IRA and the profit portion of an unqualified distribution of a Roth IRA. Taxes on excessive contributions vary if the excess contribution is made to a traditional or Roth IRA.