IRS Guides for Roth 401(k) Rollovers

by: Smith and Howard

May 28, 2014

Back to Resources

The federal government continues to tout the Roth 401(k) plan that combines some of the benefits of a traditional 401(k) plan with a Roth IRA. Typically, an employer will add this feature to an existing 401(k) plan. Now the IRS has issued a new notice governing in-house rollovers to a Roth 401(k). 

Background: As with a traditional 401(k) plan, contributions to a Roth 401(k) may compound on a tax-deferred basis over time, although contributions are not made with pretax dollars. The annual limit on Roth 401(k) contributions is the same as the limit for traditional 401(k) plans. Therefore, in 2014 you can contribute up to $17,500—$23,000 if you are age 50 or older. 

The main benefit of a Roth 401(k) comes when you get the money in retirement. As long as the Roth 401(k) has been in existence at least five years, qualified distributions are completely tax-free. For this purpose, qualified distributions include distributions made after age 59½, on account of death or disability, or if the funds are used for first-time homebuyer purchases (up to a lifetime limit of $10,000). 

Due to a recent tax law change, an employee participating in a 401(k) can now choose to transfer any amount otherwise not distributable under the plan to a designated Roth account. Thus, you can roll over funds within the same 401(k) plan without paying the 10% penalty tax for pre-age 59½ distributions, although the transfer is subject to regular income tax. 

New rules: In the new notice, the IRS explained the rules for rolling over amounts from a traditional 401(k) account to a designated Roth account without leaving the firm or otherwise triggering a distribution. If an amount is rolled over to a designated Roth account, the amount rolled over, plus any earnings, remains subject to the distribution restrictions in place before the in-plan Roth rollover. No withholding is required.

The plan may limit the type of contributions eligible for an in-plan Roth rollover and the frequency of such rollovers. A plan with an ongoing qualified Roth contribution plan would not violate the tax law if it discontinued in-plan Roth rollovers. However, an amendment to eliminate in-plan Roth rollovers is subject to rules about whether the timing of a plan amendment discriminates in favor of highly compensated employees.

Furthermore, if an in-plan Roth rollover is the first contribution made to an employee’s designated Roth account, the required five-year period of participation for qualified distributions begins on the first day of the first tax year in which the employee makes the in-plan Roth rollover. 

Usually, a plan amendment must be adopted by the last day of the first plan year in which the amendment is effective. But the new notice extends the deadline to December 31, 2014, for the 2013 plan year. Contact us at 404-874-6244 for more information. 

How can we help?

If you have any questions and would like to connect with a team member please call 404-874-6244 or contact an advisor below.