After Tax 401K Rollover to Roth IRA, Continued

Have a question about your personal investments? No matter how simple or complex, you can ask it here.
MrMiyagi
Posts: 363
Joined: Wed Jul 15, 2009 3:28 pm

Post by MrMiyagi »

tag for reading later :D
airahcaz
Posts: 1525
Joined: Sat Oct 31, 2009 3:37 pm

Post by airahcaz »

Shawn wrote:
jetjockey wrote: This is the key point I believe. For example, at my company, my 401k plan is segregated...that is, it has my pre-tax contributions PLUS earnings in one pile, and my after tax contributions PLUS earnings in another pile. I have been told by my administrator that prior to age 59, I can rollover/convert the after tax contributions PLUS earnings to a Roth IRA, without penalty. But I believe I am only subject to tax in that year to the earnings on that pile alone, and not a pro-rata of all my pre-tax contributions and earnings which remain inside the 401k.

[...]

Does this sound right?
Yes.

My employer plan, which is administered by Fidelity, is similar to yours. Fidelity refers to these different pots of money as sources. One source is pre-tax contributions plus earnings, another is after-tax contributions plus earnings, another is employer contributions plus earnings. I believe sources are equivalent to the "contracts" referred to in IRS Publication 575. They are separate entities that are independently handled. Hence, a person can distribute one source of funds without being impacted by the broader pro-rata rule. The pro-rata rule still applies, but only within the limited context of each source (e.g., you can't distribute only the after-tax contributions and leave their earnings behind). This is much different than a TIRA where all funds from all IRA's are effectively combined into one giant pot.

Each employer plan has a different set of rules. Some (most?) do not allow after-tax contributions. Some (most?) don't allow in-service distributions of after-tax contributions. While I could be wrong, my impression is that employers don't need to segregate the various fund sources into different contracts. Hence, some people may not have the flexibility to move after-tax contributions in this way. The fact that individual plans may have slightly different rules can be a source of confusion, as people may be talking about slightly different things.

I've been making after-tax contributions to my 401k over the last few years after learning that the $100K income limit for Roth conversions would be eliminated beginning in 2010. The earnings on my after-tax contributions have been essentially zero. In fact, they were negative at the end of December but went positive by $4k when the market rose in the early part of this year. Since my employer allows in-service distributions of after-tax contributions, on January 5 I rolled my $107K of after-tax contributions and their earnings from my 401k into a Roth IRA. The forms I received from Fidelity clearly stated that $103K was non-taxable and $4k was taxable. I will make $32.5K of additional after-tax contributions to my 401k in 2010, and then do another rollover to the Roth IRA later this year.

I'm utilizing the same process with a TIRA, since I have no pre-tax contributions. Hence, I'm in a situation where I can put almost $40k/yr into a Roth IRA with little or no tax consequences (obviously they are taxed as income during the contribution year). It's a free lunch.
Does one immediately rollover the after tax contributions, or are the scenarios here stating at end of year? For me, I would have to call Fidelity after every pay check and manually alert them to roll it over, hopefully directly to Roth IRA. (I have no other IRA's, just an empty Traditional IRA).
1) Invest you must 2) Time is your friend 3) Impulse is your enemy 4) Basic arithmetic works 5) Stick to simplicity 6) Stay the course. (Plagiarized, but worth stealing)
cliffedelgado
Posts: 105
Joined: Fri Apr 16, 2010 1:52 am

Post by cliffedelgado »

airahcaz wrote: Does one immediately rollover the after tax contributions, or are the scenarios here stating at end of year? For me, I would have to call Fidelity after every pay check and manually alert them to roll it over, hopefully directly to Roth IRA. (I have no other IRA's, just an empty Traditional IRA).
Ideally, you do it as soon as possible to avoid paying any taxes on earnings. However, your plan probably limits it to once a year or once a quarter, and may even charge a fee for the withdrawal.
airahcaz
Posts: 1525
Joined: Sat Oct 31, 2009 3:37 pm

Post by airahcaz »

cliffedelgado wrote:
airahcaz wrote: Does one immediately rollover the after tax contributions, or are the scenarios here stating at end of year? For me, I would have to call Fidelity after every pay check and manually alert them to roll it over, hopefully directly to Roth IRA. (I have no other IRA's, just an empty Traditional IRA).
Ideally, you do it as soon as possible to avoid paying any taxes on earnings. However, your plan probably limits it to once a year or once a quarter, and may even charge a fee for the withdrawal.
my plan doesn't have those limitations, I suppose I'll know as I'll do it the first time tomorrow
1) Invest you must 2) Time is your friend 3) Impulse is your enemy 4) Basic arithmetic works 5) Stick to simplicity 6) Stay the course. (Plagiarized, but worth stealing)
rick51
Posts: 196
Joined: Mon Sep 14, 2009 7:33 pm
Location: Maryland

Re: After Tax 401K Rollover to Roth IRA, Continued

Post by rick51 »

I see this is an aging thread, but I can't tell if its truly resolved. Picking up on the earlier reference to IRS Notice 2009-75 (maybe there is something more recent?) -

[quote]Section 824 of PPA ’06 amended the definition of qualified rollover contribution in § 408A of the Code (relating to Roth IRAs) for distributions on or after January 1, 2008, to allow the recipient of an eligible rollover distribution not made from a designated Roth account to roll over the amount of the distribution to a Roth IRA without first contributing that amount to a non-Roth IRA. The Joint Committee on Taxation Report explains the change made by section 824 of PPA ’06 as follows:
The provision allows distributions from tax qualified retirement plans, tax-sheltered annuities, and governmental 457 plans to be rolled over directly from such plan into a Roth IRA, subject to the present law rules that apply to rollovers from a traditional IRA into a Roth IRA. For example, a rollover from a tax-qualified retirement plan into a Roth IRA is includible in gross income (except to the extent it represents a return of after-tax contributions), and the 10- percent early distribution tax does not apply.1
Thus, under § 402A and § 408A, as amended by section 824 of PPA ’06, a rollover from an eligible employer plan (other than from a designated Roth account) to a Roth IRA results in the same federal income tax consequences for a participant as a rollover to a non-Roth IRA immediately followed by a conversion to a Roth IRA (except that the special rule at § 408(d)(2) for aggregating after-tax amounts would not apply)./quote]

I'm most interested in whether the "pro-rata" rule applies if you also have a traditional IRA with pre and post tax funds. It looks like moving from a qualified plan is just like a t-IRA to Roth conversion except the special rule at 408(d)(2) doesn't apply.

This is 408(d)(2):
[quote](d) Tax treatment of distributions
(1) In general
Except as otherwise provided in this subsection, any amount paid or distributed out of an individual retirement plan shall be included in gross income by the payee or distributee, as the case may be, in the manner provided under section 72.
(2) Special rules for applying section 72
For purposes of applying section 72 to any amount described in paragraph (1)—
(A) all individual retirement plans shall be treated as 1 contract,
(B) all distributions during any taxable year shall be treated as 1 distribution, and
(C) the value of the contract, income on the contract, and investment in the contract shall be computed as of the close of the calendar year in which the taxable year begins.
For purposes of subparagraph (C), the value of the contract shall be increased by the amount of any distributions during the calendar year./quote]


Sec. 72 is long but perhaps this part is helpful?
[quote](D) Special rule where lump sum paid in connection with commencement of annuity payments
If, in connection with the commencement of annuity payments under any qualified employer retirement plan, the taxpayer receives a lump-sum payment—
(i) such payment shall be taxable under subsection (e) as if received before the annuity starting date, and
(ii) the investment in the contract for purposes of this paragraph shall be determined as if such payment had been so received./quote]

Sorry for all the quotes, I'm hoping someone has or had a handle on this and this language is relevant and saves retracing steps.

I'm betting this has all been covered in another thread, but I haven't found it yet.

Thanks for any help you can provide.
Alan S.
Posts: 12629
Joined: Mon May 16, 2011 6:07 pm
Location: Prescott, AZ

Re: After Tax 401K Rollover to Roth IRA, Continued

Post by Alan S. »

I think you are asking about pro rating direct Roth rollovers from a qualified plan. Such a rollover ignores any balance you may have in traditional, SEP or SIMPLE IRA accounts and does NOT trigger the use of Form 8606. However, you still need to be concerned about pro rating from the source plan, ie which portions of the plan balance are included in the 1099R calculation.

In a typical situation, your after tax non Roth 401k contributions go into a separate sub account within the plan. The sub account contains only your after tax contributions and the earnings on those contributions and therefore you are taxed only on the amount of earnings included in the rollover. Pro rating is done by the employer on the 1099R form and includes only the sub account distribution. Contrary to popular belief, the sub account does not disappear after your separation from service.

Here is a recent article from the Fairmark site detailing the treatment of the after tax sub account distributions: http://fairmark.com/retirement/roth-acc ... yer-plans/

Note that the IRS has released nothing on the subject after 2009-68 and 2009-75.
jfly
Posts: 12
Joined: Mon Nov 11, 2013 7:36 pm

Re: After Tax 401K Rollover to Roth IRA, Continued

Post by jfly »

Do I read right?

If your 401k provider maintained independent sub-accounts for pre- and post-tax, you can rollover the post-tax sub-account to a Roth IRA with no tax on earnings?

And I'm guessing Vanguard Roth IRA will accept the rollover independent of the yearly contribution limit?
placeholder
Posts: 8373
Joined: Tue Aug 06, 2013 12:43 pm

Re: After Tax 401K Rollover to Roth IRA, Continued

Post by placeholder »

jfly wrote:If your 401k provider maintained independent sub-accounts for pre- and post-tax, you can rollover the post-tax sub-account to a Roth IRA with no tax on earnings?
You pay tax on any earnings that have accumulated before the rollover but after that it's in a Roth so no tax after.
Alan S.
Posts: 12629
Joined: Mon May 16, 2011 6:07 pm
Location: Prescott, AZ

Re: After Tax 401K Rollover to Roth IRA, Continued

Post by Alan S. »

You could also "isolate the basis", the amount of your after tax contributions from the earnings. The plan cannot do that, but you can if you take an indirect rollover.

After receiving the distribution less 20% withholding on the earnings amount, you first roll the earnings amount to your traditional IRA. Once that is completed, you roll the after tax amount to your Roth IRA, replacing the withheld amount to complete the entire rollover. There will be no taxes to pay for these rollovers because the amount that would otherwise be taxed has been rolled into your TIRA account. The withholding is credited against your tax liability when you file your return.

This method is secure per Sec 402(c)(2) of the tax code, which says that if the employee receives a distribution, the first dollars rolled over are composed first of the pre tax dollars.

Of course if the earnings are small enough you might just decide to directly roll over the entire balance to your Roth IRA and pay the taxes on the earnings.
jebmke
Posts: 25271
Joined: Thu Apr 05, 2007 2:44 pm
Location: Delmarva Peninsula

Re: After Tax 401K Rollover to Roth IRA, Continued

Post by jebmke »

Alan S. wrote:You could also "isolate the basis", the amount of your after tax contributions from the earnings. The plan cannot do that, but you can if you take an indirect rollover.
What would the 1099R look like for this distribution (assuming the institution does it correctly, which many don't).

Assume $100,000 total value of 401(k), 30,000 of which was after-tax contributions. Also assume recipient age > 59.5 so not an early distribution.

Amount in Box 1?
Amount in Box 2?
Box 7 Distribution code?
Stay hydrated; don't sweat the small stuff
Alan S.
Posts: 12629
Joined: Mon May 16, 2011 6:07 pm
Location: Prescott, AZ

Re: After Tax 401K Rollover to Roth IRA, Continued

Post by Alan S. »

jebmke wrote:
Alan S. wrote:You could also "isolate the basis", the amount of your after tax contributions from the earnings. The plan cannot do that, but you can if you take an indirect rollover.
What would the 1099R look like for this distribution (assuming the institution does it correctly, which many don't).

Assume $100,000 total value of 401(k), 30,000 of which was after-tax contributions. Also assume recipient age > 59.5 so not an early distribution.

Amount in Box 1?
Amount in Box 2?
Box 7 Distribution code?
Box 1 would show the amount distributed from the after tax sub account - that would be 30,000 plus the earnings on the 30,000.
Box 2a would show the taxable amount, ie the earnings on the 30,000 of after tax contributions.
Box 7 would show code 7 since over 59.5.
The withholding box would show 20% of the amount in Box 2a.

Of course, if your distribution request was not clear or the plan did not maintain a separate after tax sub account, the 1099R would be different as 2a would be a taxable amount based on prorating the entire account balance, not just the portion consisting of an after tax sub account.
jebmke
Posts: 25271
Joined: Thu Apr 05, 2007 2:44 pm
Location: Delmarva Peninsula

Re: After Tax 401K Rollover to Roth IRA, Continued

Post by jebmke »

I'm still a little confused.

In my case (but using the $100K number for ease of math), my Fidelity 401(k) statement shows a total balance of $100K

The breakdown of categories is Pre-tax $70K and after-tax of $30K. Then there is a separate part of the statement that says, "Post-86 after tax contributions $12K" and "Pre-1987 after tax contributions, 0" Meaning all the after tax contributions are Post-86. This would mean that of the $30K, $18 is earnings on the AT contributions.

I want to vector the $12K to a Roth and the balance, $88K to my TIRA. So if I request a distribution of the entire balance I get a check for $80K ($100K, less the $20K withholding). Wouldn't the 1099R have to somehow account for the entire $100K distribution?

I understand that to isolate the basis, I need to first send the $88K to my TIRA and then in a separate transaction send $12K to the ROTH (and this requires floating the $20K withholding until I file for a refund).
Stay hydrated; don't sweat the small stuff
Alan S.
Posts: 12629
Joined: Mon May 16, 2011 6:07 pm
Location: Prescott, AZ

Re: After Tax 401K Rollover to Roth IRA, Continued

Post by Alan S. »

Yes, the 1099R will provide a breakdown as follows. Using your figures for a total distribution:
1) Box 1 100,000
2) Box 2a 88,000
3) Box 4 17,600
4) Box 5 12,000

Your net check received will be 82,400 (100,000 less the withholding)

2a + 5 = gross distribution of 100,000. Box 4 is the portion of Box 2a (20%) that went to the IRS. You will have to float 17,600 as the withholding is only taken on the taxable amount of 88,000.

Originally, I thought you were just going to request a distribution of the after tax sub account, and perhaps early next year request a direct rollover of the rest. That would greatly reduce the withholding amount you would have to replace.

The 1099R for 2013 would therefore show:
Box 1 30,000
Box 2a 18,000
Box 4 3,600
Box 5 12,000.

Net check received would be 26,400 so you would only have to float 3,600 this way. Then early next year you could just do a direct rollover of the remaining 70,000 to your TIRA with no withholding involved. You would have to be sure your first distribution was understood to only include the after tax sub account balance.

If you can afford the 17,600 float until your tax refund, doing the entire balance as an indirect 60 day rollover does have the advantage of avoiding any mis communication over separating the after tax sub account from the rest of the plan. It is also a single distribution all reported in the same year rather than two distributions reported in different years.
jebmke
Posts: 25271
Joined: Thu Apr 05, 2007 2:44 pm
Location: Delmarva Peninsula

Re: After Tax 401K Rollover to Roth IRA, Continued

Post by jebmke »

Thanks Alan. I lean toward doing it all at once with a clean break.
Stay hydrated; don't sweat the small stuff
Post Reply