Certain retirement account transactions require you to fill out an additional form with the IRS. Here's when you might need a Form 5329 and how to complete this document.
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We all know we need to save for the future, but what happens if you contribute more than the annual limit to your retirement or health savings account (HSA)? What happens if you need to take the money out of an IRA before you reach retirement age, or you take money from a 529 plan and don't spend it on qualified education expenses?
Form 5329 is the tax form used to calculate possibly IRS penalties from the situations listed above and possibly request a penalty waiver. Form 5329 applies to each individual that might owe a penalty, so for married couples filing jointly, each spouse must complete their own form.
What is Form 5329?
You may need this form in three situations:
- Early distributions from a tax-favored account
- Excess contributions to a tax-favored account
- Failing to take required minimum distributions
We'll go into each of these three areas in more detail.
In general, you're not supposed to take money out of your IRA or 401(k) before age 59½. If you do, the IRS charges a 10% penalty for the early withdrawal, unless you meet one of the exceptions. Some of the most common exceptions to the 10% penalty are:
- Disability. You become totally and permanently disabled.
- IRS levy. You withdraw funds to satisfy an IRS levy.
- Medical expenses. You used the money to pay for medical expenses that exceed 7.5% of your adjusted gross income.
- Health insurance. You withdrew funds to pay for health insurance while you were unemployed.
- Military. You're a member of the military reserves called to active duty for more than 179 days.
You may also avoid penalties for early withdrawals from IRAs (but not 401(k)s) for the following reasons:
- Higher education expenses. You used the money to pay for tuition, fees, books, and required supplies for you, your spouse, child, or grandchild.
- First-time home purchase. You withdraw up to $10,000 (or $20,000 for a married couple) to help with the purchase of your first home.
Other distributions can also lead to a 10% penalty, including funds taken from a 529 plan or Coverdell educational savings account (ESA) that you don't use to pay for qualified educational expenses. However, you may qualify for an exception if the account beneficiary receives a tax-free scholarship or educational assistance from an employer, or attends a U.S. Military Academy.
Withdrawing money from an HSA without using it to cover out-of-pocket medical expenses can also warrant a penalty.
Whether you owe the penalty or qualify for an exception, if you take an early distribution from a qualified account, you need to complete Part 1 or 2 of Form 5329.
Many tax-favored accounts, including IRAs, 401(k)s, HSAs, ESAs, and ABLE accounts, have annual contribution limits.
For 2020, those contribution limits are:
- $6,000 to a Roth IRA or Traditional IRA ($7,000 if age 50 or older)
- $19,500 to a 401(k), 403(b), or 457 plan (plus an additional $6,500 in catch-up contributions for people age 50 or older)
- $3,550 to an HSA for individuals, or $7,100 to an HSA for families
- $2,000 to a Coverdell educational savings account
- $15,000 to an ABLE account
If you contribute more than the allowable limit, you have until the tax filing deadline or extension deadline, if you file for a tax extension, to withdraw your excess contributions. If you miss that deadline, the IRS imposes a penalty of 6% of the excess amount for each year that it remains in your account.
You'll fill out Part 3, 4, 5, 6, 7, or 8 of Form 5329 to calculate the penalty. Each type of account has its own section, so you only need to complete the section that pertains to your account — for example, Part 3 for a Traditional IRA or Part 4 for a Roth IRA.
Missed required minimum distribution
Typically, when you reach the age of 72, you must start taking required minimum distributions, or RMDs, from your Traditional IRA or 401(k). The amount you must withdraw is based on the total value of all of your tax-deferred retirement accounts divided by your life expectancy, which you can calculate according to an IRS worksheet. With traditional IRAs, you can add up the balances in all your traditional IRAs, divide the total by the life expectancy factor, and take the money from one or more accounts. However, with 401(k)s and 403(b)s, you must calculate and withdraw the required amount separately from each account.
However, your financial institution or IRA custodian will usually calculate your RMD for you.
The deadline for taking your required minimum distribution is usually December 31 of each year, although the Coronavirus Aid, Relief, and Economic Security (CARES) Act temporarily waived RMDs for all types of retirement plans for the 2020 calendar year.
In other years, if you don't withdraw the minimum amount from your plan, the penalty is severe: The IRS charges you 50% of the amount you don't take on time. You may be able to get the penalty waived if you missed taking your RMD due to an illness, mental incapacity, or bank error.
You'll calculate that penalty in Part 9 of Form 5329. To request a waiver, enter “RC” (for reasonable cause) and the amount of shortfall you want waived on the dotted line next to Line 54. Attach a letter to your tax return explaining the situation.
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