Money Rehab with Nicole Lapin - “I overcontributed to my Roth IRA. Help!” (Listener Intervention)

Episode Date: September 24, 2021

What happens if you contribute more to a Roth IRA than you’re allowed??? Asking for a friend. Today, Nicole spares a listener from fees galore. Learn more about your ad-choices at https://www.iheartpodcastnetwork.comSee omnystudio.com/listener for privacy information.

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Well, it doesn't. Charge for wasting our time. I will take a check. Like an old school check. You recognize her from anchoring on CNN, CNBC, and Bloomberg. The only financial expert you don't need a dictionary to understand. Nicole Lappin. Today's money rehabber, Katrin, called in because she was worried she had over-contributed to her Roth IRA.

But as so often happens in listener interventions, we covered way more than that. We talked about penalty fees, how to choose your own adventure when it comes to retirement, and how to budget when your income is inconsistent. Here's our conversation. Katrin, welcome to Money Rehab. So tell me what's going on. Okay. So my question that I reached out with, I think I might have over-contributed to my Roth IRA. Reason being, I work very heavily off of commission. And so my original on-target earnings was supposed to be around $90,000 for the year. And I'm currently on track to hit about $160,000 to $180,000 through the end of 2021,

which is great. But I already started contributing to my Roth IRA. And when I Googled that, I know that there's some sort of chart where if you make over a certain amount of dollars, you're not supposed to be contributing to a Roth IRA and there is a penalty assigned to it. So I kind of panicked a little bit. I'm like, do I have to withdraw the money I already put in there? Does it count for 2021? I feel a little lost on that. Great question. In your question, I thought that you were making $90,000. And so I was going to tell you that you were still fine to invest in a Roth IRA. But for 2021, you can invest in a Roth IRA if you have less than $125,000? Are you married? No, single. Okay. So if you're

modified adjusted gross income, but you're going to want to figure out what that is first, because when you're calculating that number for investing, if you're calculating the money that you have to figure out whether or not you can contribute to a Roth IRA, there are other income streams that aren't included. So like alimony, child support, social security benefits, unemployment benefits, a bunch of other things that don't count toward that number. So that stuff would be taken out. So I would first figure that out for sure. And assuming that it's over, then you're going to want to deal with it, but you're not too late to deal with it. So you put in how much this year into your Roth? $1,100 so far, just about.

Okay. So first of all, don't panic because you have actually, if you file extensions until October of next year. Awesome. That's good news. So there is a special tax, and I'm really proud of you that you know that there is a special tax for overpaying, which is high class problems, champagne problems to be overpaying into these accounts. There's an excise tax of 6% for 2021. It's not a bad percentage because, you know, if you say like you contributed $4,000, you know, for easy math more than was permitted, you'd owe like 250 bucks, for instance, as a penalty. But you want to make sure that you know how much that money earned because the bigger penalty, and it doesn't sound like you're going to have much of a penalty, is on the earnings. And that's 10%. First of all, we need to determine that you really don't qualify to directly, and I'll

explain that later, to directly put money into a Roth IRA if you have earned too much, which again, more champagne problems. We have all the champagne problems here, which are my favorite kind. So make sure that you don't even have a phase out because you haven't contributed. $2,100 is, of course, not the max that you can contribute to your Roth IRA. Do you know what the max is? $6,000. Yay. I'm so proud of you. Are you getting married by any chance? No. Okay. Because the contribution limits are higher, of course, if you're married. So just wanted to make sure. And any good accountant or any good financial advisor is going to want to know that kind

of stuff because it actually materially changes the game. So you want to make sure that your modified adjusted gross income, what exactly that's going to be. And if that's more than the amount that the IRS as of 2021 says you can contribute. So it phases out at 140. If it's more than that, and you're sure, sure, sure, and all the commissions and all the things are going to equal more than that, first of all, yay, crushing it. Second of all, just take out the amount that you put in. And if you take that amount out before the next tax year, you're not going to pay that 6%, but you're going to pay 10% on whatever that money earned. So does that make sense?

That makes sense. I think my biggest concern was, am I going to be penalized 20 years down the road and continuously be paying 10% on these earnings from 2021 because I did something wrong in 2021? No, why? Why would you think you'd do that? I just saw the word penalty and kind of freaked out. I feel like it's a very intimidating word, especially when you don't know exactly what you're doing. Yeah. If you withdraw the excess contribution. So again, if you're phasing out, you could still qualify to put $2,000 in. So if you take the excess from what you are qualified to put in out, then you avoid the 6% excise tax. You won't owe federal tax on that excess

contribution if you take it out. But then the 10% federal tax is on the earnings that that money made before you took it out. And then it's over. Okay. That doesn't sound as bad as what I was expecting. No, they don't come get you every year because you put $2,000 extra into your Roth IRA. Like, you are very special, but the IRS has a bunch of other shit to do. I promise. I promise. You are very special, but the IRS has a bunch of other shit to do. They've got more things to worry about. I promise.

Hold on to your wallets, boys and girls. Money rehab will be right back. Now for some more money rehab. So what are you thinking? I think I'm going to leave it in there. To me, I think the benefit of having it in there is stronger than the 6% and 10% tax penalty. Yeah, because look, I love, love, love that you are planning ahead. And I love that you're making so much more money. And I love that you're making so much money on commissions or you're

projecting to make that. You don't know what's going to happen by the end of the year. So it wouldn't totally jump the gun like the holiday times coming. Where do you work? I work at salary.com. Amazing. In Boston. Amazing. And no doubt you are crushing it. You're going to make all the commissions because you are a boss bitch. But again, you don't know exactly what the MAGI or modified adjusted gross income is going to be for you by the end of the year. So I think it's smart for you to wait. So I have a little bit of a tag on question for you then.

Bring it. When all of this happened and I Googled this and found out I was the MAGI figure, and found out I was the MAGI figure, I decided to start pulling 30% into my 401k from my employer because I was trying to lower my MAGI so that I wouldn't over-contribute. But my employer only matches up to 6%. So I don't know if now knowing that the penalty is not as severe as I thought it was going to be, do I continue contributing 30%? And it's only off of my base salary. They don't contribute for all of your commission and on-target earnings too. Well, how is your lifestyle with contributing 30% to retirement?

It's okay. I don't feel squeezed. Okay. So I guess is that my answer? I mean, if you feel like you want to save more for a particular event in your life, if you need the money to pay off debt, then I would say, you know, maybe bring it down to the 6% that they match. But you're telling me that's not the case? Yeah, I've been contributing 30% for the past few months and it's been comfortable. My other thing is I'm like, is a 401k really the best? Well, that was my next point. So how much are you making in your 401k? And what option did you choose within the 401k? Or did you go for the default option, which most people do? Default.

Yeah. So if you're putting that much money into your retirement account, you don't want to do the default. Otherwise, you don't know how much do you? I actually won't assume. Do you know how much interest you're making? I would, I think maybe 12%, whatever that, you know, when they tell you 12% over the year. Yeah, that seems like a lot. And there are a lot of fees involved. So I would just make sure that you are picking the best option for you. You're young. How old are you? 27. Girl! Okay. So the rule of thumb is have your age in bonds and have the rest in equities or stocks. So say 30% in bonds and then 70% in stocks, which is more aggressive because you have a lot of time till retirement. I love the fact that you're saving so much for retirement. Like you are a sister from another mister. a sister from another mister. My heart is warm hearing this story. But you do have a lot of time and you're right. You probably could be more aggressive. You probably could be more aggressive

than whatever the default option is for starters. So I would make sure you know where that 30% is going. That is an awful lot of money. That is a big percentage that you're putting in. So I would say 6% for sure contribute. The rest of it, see what percentage you're earning on that money. And then see if you have other accounts you could open? Do you have a brokerage account? Do you have an HSA account? I have a brokerage account. I do not have an HSA account. Does your employer offer an HSA? They do. Okay. So maybe that's another one to look into. I mean, I think the more options,

the better because it gives you more diversity. Where is your brokerage? TD Ameritrade. Cool. And what's going on in there? I have about $20,000 in there now, but that's including whatever money I've made off of it in the last year and a half or so. So reinvested? Yes. Yep. And that's kind of a mess too, because I have a variety of just stocks and then I have some index funds, but I don't have any bonds. And I know you mentioned

like 30% of my investment portfolio at this age should probably be bonds, but I don't know how to invest in bonds through my brokerage account. You're probably invested in bonds already through your 401k. Okay. Do you know what your Roth allocation is? Where they're going? Yeah. Yeah. Because I got them myself. Some of them are Tesla. Inside your Roth. Okay. Inside my Roth. Cool. And then some of them are index funds too. I just don't know which index funds. Okay. Yeah. I mean, S&P 500 index funds, probably?

Most likely, yes. Okay. Then great. So it sounds like the investments within your Roth IRA are similar to the investments in your brokerage account. We don't know what's in the 401k, but we're going to find out. I'm sure there are bonds. So I'm sure you have bonds. I would just want you to know. Don't you want to know now? I do want to know now. I'm curious.

I mean, you're already invested in a brokerage. You're 27. You are doing really well. I'm really proud of you. And so you it just sounds like you are stepping it up and stepping up your game means just having more knowledge. Knowledge actually isn't power when it comes to finances. It's action. That's power. A lot of people know the things or they can find the things. The internet has so many things. I'm sure you did a whole like Google

search around this Roth thing and there's so much information, right? And sometimes there's like information overload or decision fatigue. So it's not the lack of knowledge out there. It's just the lack of action and doing something with that knowledge. So it sounds like you're leveling up, which is awesome. I'm trying. You are. You're doing it. I've come a long way since reading Rich Bitch in Chicago,

making $150 a week. It's amazing. I tell all my friends, I'm like, you have to read this book. It is so relatable. It's easy to read and it's digestible. Thank you. Thank you. For today's tip, you can take straight to the bank.

Make sure you know how your retirement accounts are invested. Katrin is a super badass rich bitch who has done a DIY Roth and handpicked investments like a boss. DIY Roth and handpicked investments like a boss. But if you're not quite ready to dive into the deep end of the investment or retirement pool, that's a-okay. If your sole retirement account is a 401k that your employer manages for you, make sure you know how much is in that account and how that money is invested. When it comes to investing, we love to set it and forget it. But remember to periodically check your 401k so that you know how your money is or isn't working for you. Money Rehab is a production of iHeartRadio. I'm your host, Nicole Lappin. Our producers are Morgan Lavoie and Mike Coscarelli. Executive producers are Nikki Etor and Will Pearson.

Our mascots are Penny and Mimsy. Huge thanks to OG Money Rehab team Michelle Lanz for her development work, Catherine Law for her production and writing magic, and Brandon Dickert for his editing, engineering, and sound design. And as always, thanks to you for finally investing in yourself so that you can get it together and get it all.