Some federal employees participate in more than one defined contribution plan during a calendar year. They contribute via payroll deduction to both the traditional Thrift Savings Plan (TSP) and to another tax-deferred retirement plan such as a 401(k), 403(b), 408(k) or 501(c)(18) retirement plan. This column discusses the consequences of an employee making excess contributions to more than one qualified retirement plan during a calendar year.
What is an Excess Deferral?
An excess deferral is the amount of an employee’s contributions to a tax-deferred (qualified) retirement plan that exceeds the allowable annual limit on elective deferrals (these are retirement plan contributions made via payroll deduction from an employee’s paycheck). Elective deferrals are always made via payroll deduction from an employee’s salary. For 2018, the limit on elective deferrals was $18,500, increasing to $19,000 during 2019. Excess deferral limits also apply to employees over age 49 by the end of the calendar year who are eligible to make “catch-up” contributions. The limit for “catch-up” contributions during 2018 was $6,000 and remains $6,000 for 2019.
Exceeding the Annual Limits when Contributing to Both a Civilian and Uniformed Services TSP Account
If an employee participated in both the civilian TSP and the uniformed services TSP during 2018, then sometime during January 2019 the TSP will check to see whether the employee’s combined contributions exceeded any of the limits. To do so, the TSP will add up the traditional (before-taxed) and Roth (after-taxed) contributions made to both accounts. Note that the traditional TSP tax-exempt contributions made to a uniformed services account while deployed to a designated combat zone do not count toward the elective deferral limit. The TSP will then return any contributions that exceeded the applicable limit along with attributable earnings on those contributions. This return of contributions with attributable earnings will be made before Apr. 15, 2019. The affected employee/uniformed service member need not take any action.
Elective deferrals and their attributable earnings in a uniformed services TSP account will be returned before those excess deferrals and their attributable earnings in a civilian TSP account. If an employee made both traditional and Roth contributions during the year, the excess elective deferrals and their attributable earnings returned to the employee will include a proportional amount from the employee’s traditional and Roth TSP balances.
Exceeding the Annual Limits When Contributing to Both the TSP and to an Outside Qualified Retirement Plan
A federal employee may have participated in more than one qualified retirement plan during 2018. The following example illustrates:
Carl, a federal employee and covered by FERS, contributed $15,000 in elective deferrals to the TSP during 2018. Carl also moonlights and worked for a private company during 2018. The private company has a 401(k) plan and Carl contributed via payroll deduction $5,000 to the 401(k) plan during 2018.
The annual excess deferrals discussed previously applies to the total contributions made to all qualified retirement plans (including the TSP) made by an individual during the calendar year. This means that the overall contribution excess deferral limit of $18,500 applied for 2018 and $19,000 applies for 2019. In this example, Carl contributed during 2018 a total of $20,000 ($15,000 to the TSP and $5,000 to the 401(k) plan) and therefore exceeded the limit of $18,500 by $1,500. Unless an employee does not request a refund of excess contributions, the employee will be subject to an IRS penalty equal to 6 percent of the excess contribution amount, as explained below.
In January, the TSP will attach Form TSP-44 (Request for Refund of Excess Employer Contributions) to the TSP Fact Sheet: Annual Limit on Elective Deferrals (available here), for eligible participants to complete and send to the TSP for processing. If a TSP participant who made excess TSP contributions during 2018 submits Form TSP-44 in a timely manner, the TSP will return the excess deferrals and associated earnings to the TSP participant.
Some additional information and instructions for preparing and submitting Form TSP-44:
(1) Make sure that the latest version of Form TSP-44 is used. Previous versions are absolute and will not be processed. To know whether one has the most recent version of the form, look in the upper right-hand corner, under the form name, for the tax year. If requesting the return of excess contributions made in 2018, the form should say “Tax Year 2018”.
(2) Form TSP-44 must be faxed or postmarked and mailed to the address on the form no later than March 15 of the year after the excess deferrals were made. For 2018, excess deferrals can be refunded by filing Form TSP-44 by March 15, 2019. Form TSP-44 will be removed from the TSP Web site immediately after March 15, 2019.
Tax Consequences of Contributing More than the Annual Limit in Any Tax Year
Excess deferrals are treated as income in the year in which the employee makes the contributions. Note that the total amount of deferred income is reported by an employer in Box 12 of the employee’s Form W-2. Employees who have made traditional retirement plan excess deferrals must report the total amount of the excess on the employee’s wages for the year in which the employee made the excess deferrals. Roth excess deferrals are also taxable wages for the year in which the employee made the excess deferrals. But the amount required to be reported is already included as income in Box 1 of the employee’s W-2.
If an employee elects to receive excess deferrals as a refund from the TSP, then the employee will receive IRS Form 1099-R (Distributions from Pensions, Annuitants, Retirement or Profit-Sharing Plans, IRAs, Insurance, Contracts, etc.) which will indicate the excess deferral was refunded to the employee. If the employee has already filed his or her individual tax return for the year in which the excess was contributed and the amount was not included as taxable wages, then the employee will need to file an amended tax return.
Tax Treatment of Earnings on Excess Deferrals
Earnings distributed with excess deferrals are considered taxable income in the year in which the earnings are distributed. This is unlike the excess deferrals themselves which are considered taxable income in the year they are contributed. Earnings on Roth TSP deferrals will also be taxable even if the Roth TSP contributions have been taxed and the Roth TSP participant has met the IRS requirement to receive Roth TSP earnings tax-free; that is, it has been five years since January 1st of the year the Roth TSP participant made his or her first Roth TSP contributions. The Roth TSP participant must be at least age 59.5 or permanently disabled.
A TSP participant will receive a separate IRS Form 1099-R indicating the amount of earnings. The TSP participant must report the amount shown on Form 1099-R as income in the year in which the distribution is made.
Treatment of Agency/Uniformed Service Matching Contributions Associated with Excess Deferrals Returned to the TSP Participant
An employee’s agency or uniformed service member’s branch will be notified that the employee or uniformed service member has requested that excess deferrals and associated earnings will be returned to him or her. The agency or uniformed service member branch is then required to remove the agency/uniformed service matching TSP contributions associated with these excess deferrals. If the agency/uniformed service fails to remove the matching TSP contributions within one year of the date the contributions were made, the TSP will remove them and use them to offset TSP administrative expenses.
Finally, some other tax consequences of the distribution of excess deferrals to qualified retirement plans including the TSP:
(1) IRS early withdrawal penalty. If the distribution of excess deferrals is made before April 15 of the tax year following the year in which the excess deferral was made, it will not be considered an early withdrawal and therefore not subject to IRS penalty.
(2) Consequences of not withdrawing excess deferrals by April 15 of the following tax year. After April 15 of the following tax year, an employee or uniformed service member cannot request to have the excess deferrals made in the previous tax year refunded. If the excess deferrals were traditional (before-taxed) TSP, then the TSP participant will be taxed twice on the excess deferrals – once in the year in which the excess deferrals are made, and then again when the TSP participant separates from Federal service and withdraws the traditional TSP account. Earnings on the excess deferrals are taxed only once – when withdrawn.
If the distribution is from a Roth (after-taxed) TSP and the distribution is not made by April 15 of the year following the year of excess deferrals, then the Roth TSP excess deferrals will not be treated as after-taxed contributions. This means that the “double-taxation” rule will also apply to excess Roth contributions. Taxes will also be owed on the earnings attributable to the excess Roth TSP contributions, even if the Roth TSP participant has already met the qualified distribution requirements.
It is therefore important that employees who participated both in the TSP and in another qualified retirement plan during 2018 to make sure they have not made excess deferrals. They would do so by checking their 2018 W2’s Box 12 (Code D) to see the amount of elective deferrals they made. If excess deferrals were made to the TSP, then a request for a refund of excess deferrals must be made by March 15, 2019, using Form TSP-44.
Edward A. Zurndorfer is a Certified Financial Planner, Chartered Life Underwriter, Chartered Financial Consultant, Chartered Federal Employee Benefits Consultant, Certified Employees Benefits Specialist and IRS Enrolled Agent in Silver Spring, MD. Tax planning, Federal employee benefits, retirement and insurance consulting services offered through EZ Accounting and Financial Services, and EZ Federal Benefits Seminars, located at 833 Bromley Street Suite A, Silver Spring, MD 20902-3019 and telephone number 301-681-1652. Raymond James is not affiliated with and does not endorse the opinions or services of Edward A. Zurndorfer or EZ Accounting and Financial Services. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. While the employees of Serving Those Who Serve are familiar with the tax provisions of the issues presented herein, as Financial Advisors of RJFS, we are not qualified to render advice on tax or legal matters. You should discuss tax or legal matters with the appropriate professional.
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