How I Transfer Over $50k to Roth IRA Each Year

[frugalNOTcheap]

My wife and I contribute the maximum to our 401k's (which is $56,500 each for 2013 [including catch up contribution]). This includes pretax, after tax, and employer contribution. Since our plan allows for in service withdrawals of after tax funds, once a year we transfer the after tax amount (plus their earnings which are usually small if we time it right) to our Roth IRAs. In addition to that, we each do a backdoor Roth. So, by the end of each year we have a sizable amount stashed into Roths with very little tax. I'm curious whether other people are doing this as well.

[mhc]

Welcome to the forum.

Thank you for the information. This has been discussed before. Unfortunately, not all plans allow this.

[retiredjg]

Welcome to the forum!

I'm curious whether other people are doing this as well.

Yes, we have a small, but growing, group of folks that do this. But like the general public, a lot of folks are unaware of the opportunity and some folks just don't realize that after-tax contributions are different from Roth 401k contributions.

Stick around and you'll see some discussions. Or you can find some older discussions with the search box.

[FordBiggs]

But like the general public, a lot of folks are unaware of the opportunity and some folks just don't realize that after-tax contributions are different from Roth 401k contributions.

First time I'm hearing this. Care to explain what's the difference between after-tax contributions to 401k from Roth 401k contributions? Aren't those exactly the same? Or are you comparing it to Roth IRA?

Also, how can OP contribute up to $50k+ per year to 401k? Isn't the max only like $17,000 per year?

[mlewis]

I'd also like to try to understand this more. How is this transfer different from a Roth 401(k) contribution.
How does this transfer involve "very little tax?" Wouldn't the tax consequence involve being taxed at your marginal rate for the full 50k you transferred into the Roth?

malcolm

[bottlecap]

My wife and I contribute the maximum to our 401k's (which is $56,500 each for 2013 [including catch up contribution]). This includes pretax, after tax, and employer contribution. Since our plan allows for in service withdrawals of after tax funds, once a year we transfer the after tax amount (plus their earnings which are usually small if we time it right) to our Roth IRAs. In addition to that, we each do a backdoor Roth. So, by the end of each year we have a sizable amount stashed into Roths with very little tax. I'm curious whether other people are doing this as well.

I would do this if my plan allowed. These are after tax funds, however, so it's not exactly "with very little tax", or am I wrong about that?

JT

[tfb]

But like the general public, a lot of folks are unaware of the opportunity and some folks just don't realize that after-tax contributions are different from Roth 401k contributions.

Even more simply don't have the [non-Roth] after-tax option.

[letsgobobby]

To call it "very little tax" is misleading, since the contributions are after tax and thus fully taxed at your full marginal federal and state tax bracket. It is still better than taxable investing.

[archbish99]

But like the general public, a lot of folks are unaware of the opportunity and some folks just don't realize that after-tax contributions are different from Roth 401k contributions.

First time I'm hearing this. Care to explain what's the difference between after-tax contributions to 401k from Roth 401k contributions? Aren't those exactly the same? Or are you comparing it to Roth IRA?

Also, how can OP contribute up to $50k+ per year to 401k? Isn't the max only like $17,000 per year?

There are several types of 401k contributions. The limit of $17k (2012 numbers) applies to employee pre-tax (a.k.a. Traditional) and employee Roth contributions. The limit of $50k applies to those, plus employer contributions (matching, profit sharing) and employee after-tax contributions. "After-tax contributions" are similar in tax treatment to non-deductible Traditional IRA contributions -- you're putting already-taxed money in, but taxes on the earnings are deferred until withdrawal. When you take a withdrawal, a fraction is not taxable and a fraction is, depending on the ratio of contributions to earnings. Like non-deductible contributions to a Traditional IRA, this is generally not a good idea, since it's less optimal than tax-efficient investing in a taxable account.

The exception to that, in both cases, is if you can convert to a Roth in reasonably short order. If your plan allows for in-service distributions of at least those monies, or if you intend to leave your job shortly, you can convert the money out of the 401k into a Roth IRA.

Not all plans allow for after-tax contributions at all, and many (the majority?) of those that do, don't allow in-service withdrawals of them. But those lucky enough to have a plan which permits both can contribute up to $50k; probably as $17k Traditional, some amount of match, and the remainder as after-tax. They then take in-service distributions to convert the after-tax contributions to a Roth IRA, giving them as much as $38k/person/year Roth access. Where after-tax contributions are generally worse than taxable, Roth is strictly better.

Like a back-door Roth, if the conversion happens before there are substantial earnings in the account, there are very few additional taxes from doing the conversion. You have, of course, already paid your marginal rate before you contributed the money, and nothing about this changes how that money gets taxed.

[travellight]

thanks for the explanation, archbish99.

[FordBiggs]

Thanks too for the detailed explanation archbish99. I guess this is really dependent on your company's 401k rules. I need to find out if mine offers these (even though I have a feeling they don't). Thanks again!

[retiredjg]

Limits for 2013:

Elective deferrals = $17,500 (traditional, Roth, or a combination)

Catch Up for elective deferrals = $5,500 (traditional, Roth or a combination)

415(c)(1)(A) limit = $51,000 (total of elective deferrals, employer match and profit sharing, and after-tax employee contributions)

I might disagree with archbish99's excellent summary on one small point. From what we've seen here on this forum, I'd say that the majority of employers who offer this option do allow in-service rollover to IRA/Roth IRA. I don't know if our sample represents the general population, but almost all of people who responded to a poll on our forum can do a rollover. If I recall correctly, the frequency ranged from once a year to an unlimited number per year.

I think most people agree that after-tax contributions, without the ability to roll that money out to Roth, is not a great choice for most situations. Taxable investing would be a better choice.

I would also mention that there are possibilities of rolling the money out and then rolling the untaxed portion back into the 401k. If you see a discussion about "isolating the basis", that is what is being discussed.

[Default User BR]

My wife and I contribute the maximum to our 401k's (which is $56,500 each for 2013 [including catch up contribution]). This includes pretax, after tax, and employer contribution. Since our plan allows for in service withdrawals of after tax funds, once a year we transfer the after tax amount (plus their earnings which are usually small if we time it right) to our Roth IRAs. In addition to that, we each do a backdoor Roth. So, by the end of each year we have a sizable amount stashed into Roths with very little tax. I'm curious whether other people are doing this as well.

To the extent that I can. Unfortunately MyMegaCorp limits 401(k) contributions to 25% of salary, so the amount of after-tax isn't as high as I would like. But I suppose I should be happy that they allow it at all.


Brian

[Default User BR]

I might disagree with archbish99's excellent summary on one small point. From what we've seen here on this forum, I'd say that the majority of employers who offer this option do allow in-service rollover to IRA/Roth IRA. I don't know if our sample represents the general population, but almost all of people who responded to a poll on our forum can do a rollover.

Here is that poll: http://www.bogleheads.org/forum/viewtopic.php?f=11&t=104829

It has the usual problem of ad hoc polling, including self-selection and failure to include a choice for "unknown".


Brian

[JSMill]

What makes some 401K plans offer after-tax contributions while others don't?

[BerkeleyChris]

[question removed]

[Default User BR]

What makes some 401K plans offer after-tax contributions while others don't?

It's up to the plan rules and administration. One factor is that offering alternatives like after-tax or rollover contributions requires separate accounting of those amounts, which will complicate administration.


Brian

[Default User BR]

Limits for 2013:

Elective deferrals = $17,500 (traditional, Roth, or a combination)

Catch Up for elective deferrals = $5,500 (traditional, Roth or a combination)

415(c)(1)(A) limit = $51,000 (total of elective deferrals, employer match and profit sharing, and after-tax employee contributions)

A further note, the employee deferral limit is across all plans, while the 51k is per plan. A solution for people who have two jobs, change jobs in the year, or have a side business with a solo plan can be to use after-tax in a plan that allows it, and max the deferral in another.


Brian

[retiredjg]

A further note, the employee deferral limit is across all plans, while the 51k is per plan.

This ALWAYS twists my brain around. I simply can't seem to remember it. There...I've written it down. Thanks, Brian.

[tfb]

What makes some 401K plans offer after-tax contributions while others don't?

That they are older plans at larger companies. Before safe harbor came along, plans had to limit contributions from highly compensated employees (HCEs) if lower paid employees didn't contribute as much. After-tax contributions were used as an escape hatch. HCEs could still contribute the annual maximum; they just had to do part pre-tax, part after-tax. It requires a more sophisticated payroll system. Therefore smaller employers tended not to bother with it. Safe harbor (minimum match or employer contributions across the board) removed the need for the escape hatch. When an employer goes by the safe harbor, HCEs can do all pre-tax. Newer plans just go by the safe harbor. So we are left with older plans at larger companies. None of the employers I worked for allowed after-tax contributions.

[bdpb]

There seem to be two different max numbers referenced here. The first reference is to 51,000. The second reference is to 56,500 (51,000 + 5,500 catch up contribution).

I've seen elsewhere the 5,500 catch up contribution is included in the 51,000. Can someone (like Alan S.) definitively say what the max number should be? I can't seem to garner the correct number looking at IRS docs.

[Default User BR]

There seem to be two different max numbers referenced here. The first reference is to 51,000. The second reference is to 56,500 (51,000 + 5,500 catch up contribution).

I've seen elsewhere the 5,500 catch up contribution is included in the 51,000. Can someone (like Alan S.) definitively say what the max number should be? I can't seem to garner the correct number looking at IRS docs.

In the US Code on catch-up contributions, section 414(v)(3) it states:

(3) Treatment of contributions
In the case of any contribution to a plan under paragraph (1)—
(A) such contribution shall not, with respect to the year in which the contribution is made—
(i) be subject to any otherwise applicable limitation contained in sections 401 (a)(30), 402 (h), 403 (b), 408, 415 (c), and 457 (b)(2) (determined without regard to section 457 (b)(3)), or
(ii) be taken into account in applying such limitations to other contributions or benefits under such plan or any other such plan, and

I believe that means that it is not included, so the limit for age 50+ is 56.5k.

Brian

[retiredjg]

If you believe the internet, it looks like it might be the higher number.

http://en.wikipedia.org/wiki/401(k)

There is also a maximum 401k contribution limit that applies to all employee and employer 401k contributions in a calendar year. This limit is the section 415 limit, which is the lesser of 100% of the employee's total pre-tax compensation or $44,000 for 2006, $45,000 for 2007, $46,000 for 2008, $49,000 for 2009-2011, $50,000 for 2012 and $51,000 for 2013. For employees over 50, the catch-up contribution limit is also added to the 415 limit

I could not find that in the IRS announcements I was reading, so it could be just one of those things that is "known" by the folks who need to know it.

I know the Wikipedia is not fool proof, but I tend to believe it when the article seems to be properly footnoted. You'd think if there is a mistake that another editor would jump in there and get it fixed pretty quickly.

[bdpb]

If you believe the internet, it looks like it might be the higher number.

Merci and bonjour.

[MN Finance]

If you believe the internet, it looks like it might be the higher number.

http://en.wikipedia.org/wiki/401(k)

There is also a maximum 401k contribution limit that applies to all employee and employer 401k contributions in a calendar year. This limit is the section 415 limit, which is the lesser of 100% of the employee's total pre-tax compensation or $44,000 for 2006, $45,000 for 2007, $46,000 for 2008, $49,000 for 2009-2011, $50,000 for 2012 and $51,000 for 2013. For employees over 50, the catch-up contribution limit is also added to the 415 limit

I could not find that in the IRS announcements I was reading, so it could be just one of those things that is "known" by the folks who need to know it.

I know the Wikipedia is not fool proof, but I tend to believe it when the article seems to be properly footnoted. You'd think if there is a mistake that another editor would jump in there and get it fixed pretty quickly.

This has always been my understanding as well, that the catch up increases the 415 limit. There are some other nuances, such as how the contribution sources are "stacked" (my term) to get to this number, so even if someone is over 50 there could be times when they must stay in the 415 limit mentioned of $51k (I think cases with very large employer contributions, for ex. You must use the regular $17k before applying the catchup, so if employer puts in $40k, you won't be able to go above $51k. Just an example, there may be more to it)

[Stonebr]

But like the general public, a lot of folks are unaware of the opportunity and some folks just don't realize that after-tax contributions are different from Roth 401k contributions.

First time I'm hearing this. Care to explain what's the difference between after-tax contributions to 401k from Roth 401k contributions? Aren't those exactly the same? Or are you comparing it to Roth IRA?

Also, how can OP contribute up to $50k+ per year to 401k? Isn't the max only like $17,000 per year?

In the old days -- 1970s and earlier -- before 401k was invented, there were things called thrift savings plans, money purchase plans, and profit sharing plans. You contributed after tax dollars to the plan and your company contributed pre-tax match or profit sharing. The earnings on the plan assets were tax sheltered just like an IRA. Later, about 1980 when the 401k became popular, many companies simply modified the existing thrift plan to include 401k. These plans often continued to make the old plan available, but since the 401k was so much better (tax sheltering the contributions as well as the earnings), people sort of forgot the thrift plan feature existed. The maximum contribution to 401k was the same as for plans that didn't have the thrift plan feature, but you could always contribute additional amounts after tax to the thrift plan. Dial forward 20 years or so, and the Roth 401k was invented. Suddenly you have three choices in these plans. The Roth differs from the thrift in that earnings are never taxable, even when you withdraw in retirement.

As I recall these after tax contributions were covered under a separate IRS rule called 401a. 401k came along later. Maybe someday there will be a 401z.

Note that most 401k plans came along after about 1980 and never included the old thrift savings plan idea. If you work for such a company, tough luck.