Bogleheads

[ydnar]

There has been much discussion on the rolling of 401K after tax funds directly into a Roth IRA without creating a taxable event. After much study of conflicting information, I decided to ask the IRS directly and made the decision to proceed with the rollover of my Vanguard 401k into Roth and Traditional Vanguard accounts. My request to the IRS was on Dec 9, 2009, and they called me today with their answer that the after tax money could go directly into a Roth account. I am well aware of the fact that they do not stand behind their advice and can turn on you after the fact, but I figure I can always recharacterize the Roth account if necessary. Here again are the details of my situation:

--62 Year Old with approximately 88000 after tax funds and 400,000 pretax funds in my Retirement Saving Plan with Vanguard. I am still employed, but the transfer is permitted under the plan rules.

--Vanguard encouraged me to create a Roth and Traditional IRA account on their website and has sent me the application to transfer the funds directly into the appropriate existing accounts.

--I have been working with the Vanguard Rep for sometime and they have been very helpful, but they insist that they do not provide tax guidance which is certainly understandable with all the vague guidance available from the IRS. I have had Traditional and Roth IRAs with Fidelity for years and my Fidelity Rep told me they routinely make this type of direct transfer (he may have been hoping to get some of the Vanguard business).

--I recently moved all my 401k funds into Vanguard Target Retirement 2015 for simplicity and plan to keep them there.

I know several financial articles and forum posters have described other interpretations and procedures for accomplishing this rollover, but I have decided to act now and recharacterize later if I must. Am I missing something simple here that will make me regret the decision?

[Default User BR]

[ydnar]

No taxes withheld because they are both direct rollovers. (Traditional and Roth)

[Shawn]

I've read and heard different interpretations of what can and cannot be done with 401 plans, but yesterday, I did essentially the same thing as you.

I have pre-tax and after-tax contributions in a 401a at a former employer, and pre-tax and after-tax contributions in a 401k at my current employer. There are earnings on these contributions, but the earnings on the after-tax contributions are essentially zero. In fact, they were negative on December 31 but went slightly positive due to the market gain so far this week.

So yesterday, I rolled the after-tax contributions and the earnings on the after-tax contributions from both plans into a Roth IRA. Fortunately, my current employer allows in-service distributions of after-tax contributions. My pre-tax contributions with their earnings remain in the 401 plans. I believe this will have negligible tax consequences (I'll be taxed only on the small earnings from the after-tax contributions). It would be different if it was a TIRA to Roth conversion, in which case I would need to pro-rate with any pre-tax contributions.

Both of my employer plans are at Fidelity. For simplicity and safety, I elected to open a Roth IRA at Fidelity and directly roll the 401 funds here. When I retire in a couple years, I may roll this over to a Roth IRA at Vanguard. I did all this over the phone. The Fidelity representative (retirement specialist) was very helpful and seemed quite knowledgeable. I began speaking with him in December to be ready for the conversion. I asked several times about the pre-tax contribution issue and the information that will be included on the 1099-R form that I will receive in January of next year. The Fidelity representative was very precise with his words (factual information, but no advice) ... "You are rolling over X dollars in after-tax contributions. This will not create a taxable event. You are rolling over Y dollars in earnings on after-tax contributions. This will create a taxable event."

I believe all of this will work. In fact, I'll make additional after-tax contributions to my 401k later this year, which I'll "immediately" roll into the Roth IRA. Of course, this is new territory. I won't be completely satisfied about the mechanics and tax consequences until tax time next year.

[Redbelly]

[YDNAL]

YDNAR?

PLAGIARISM.... I'm suing for damages!
_________________
Landy
“The business schools reward difficult complex behavior more than simple behavior, but simple behavior is more effective.” - Warren Buffett

[the intruder]

[ydnar]

[

While there is no question that you can rollover the AT funds directly to a Roth IRA from the 401k plan, you will need to determine what portion of the AT amount rolled over to the Roth will be taxed as a distribution if you also received a taxable distributions in the same year from your 401k plan that was rolled over to a traditional IRA and/or you also maintained a traditional IRA. You need to complete IRS form 8606 to determine what will be the taxable percentage of the AT funds rolled over to the Roth IRA that will be included in taxable income.[/quote]

It was my understanding that the proportionality rules don't apply to a direct 401k rollover to an IRA...ydnar

[the intruder]

[Redbelly]

[Shawn]

[james22]

[ydnar]

You would owe taxes on any gains in the account, but Vanguard has isolated only the after tax contributions that will be used in the transfer...no gains.

[Jack]

[the intruder]

[james22]

[Default User BR]

[Shawn]

[Shawn]

[Redbelly]

[Jack]

[ydnar]

The IRS website contains information that I don't think I have seen quoted yet. It is Notice 2009-75, Rollovers from Employer Plans to Roth IRA's. Part III, Question 1, Answer 1
III. ROLLOVERS FROM AN ELIGIBLE EMPLOYER PLAN TO A ROTH IRA
Q-1: What amount is included in gross income as a consequence of a
rollover to a Roth IRA from an eligible employer plan (i.e., a qualified plan
described in § 401(a), an annuity plan described in § 403(a), a plan described in
§403(b), or a governmental § 457(b) plan)?
A-1: (a) Rollovers to a Roth IRA of distributions that are not made from a
designated Roth account. If an eligible rollover distribution from an eligible
employer plan is rolled over to a Roth IRA and the distribution is not made from a
designated Roth account, then the amount that would be includible in gross
income were it not part of a qualified rollover contribution is included in the

distributee’s gross income for the year of the distribution. For this purpose, the
amount included in gross income is equal to the amount rolled over, reduced by
the amount of any after-tax contributions that are included in the amount rolled
over, in the same manner as if the distribution had been rolled over to a non-Roth
IRA that was the participant’s only non-Roth IRA and that non-Roth IRA had then
been immediately converted to a Roth IRA. Thus, the special rules relating to
net unrealized appreciation at § 402(e)(4) and certain optional methods for
calculating tax available to participants born on or before January 1, 1936 are not
applicable.

In their usual way of explaining things, the IRS has written something bordering on unreadable, but I feel that it still supports my plan in that:

--I am taking a full distribution of my 401K
--The portion that I want to roll into the Roth is totally aftertax funds that should not need to be added to my AGI Am I misunderstanding the mess that they have printed?

Randy

[Redbelly]

[ydnar]

Redbelly,

I think that is what they are saying in a backdoor type way by saying that the portion that is counted as taxable is everything but the after tax amount. You have to assume that the normal rollover rules would apply to the remainder of pretax and earnings.

Randy

[jebmke]

From 2008 Pub 575, p26

[MediumTex]

I'm a little late to this discussion, but take a look at IRS Publication 575, page 16, top of second column.

http://www.irs.gov/pub/irs-pdf/p575.pdf

The example the IRS provides here is the basis for being able to take a distribution from a 401(k) plan of ONLY after-tax contributions (including earnings on those after tax contributions).

This seems to address the issue raised in the OP.

To me, we are realy talking about two separate issues here. The first issue is how to receive a distribution of only after-tax amounts (plus earnings on those amounts). The second issue is how to get those after-tax amounts into a Roth IRA with a minimum amount of trouble.

I have seen plans that do distributions on a pro rata basis based upon the entire account balance (i.e., after-tax and pre-tax contributions, plus earnings on all amounts), and I have seen plans that do the pro rata calculation based upon the after-tax amounts and earnings thereon only--this is the methodology described in the section of Publication 575 cited above.

Take a look at your plan summary and if it says you can take a distribution of after tax amounts only, it normally means that the plan is using the more narrow Publication 575 methodology described above.
_________________
"Early in life I noticed that no event is ever correctly reported in a newspaper."
-George Orwell

[Redbelly]

The way I ended up doing it was to rollover all my pretax contributions and pretax earnings from the 401(k) to the Rollover IRA. Then I had only after tax contributions and after tax earnings left in the 401(k) account. I asked for two checks to be cut, both made out to Fidelity. One check was after tax contributions, which went to a Roth account and the second was after tax earnings, which went to the Rollover IRA.

[Default User BR]

[MediumTex]

[MediumTex]

[Redbelly]

[MediumTex]

[Default User BR]

[Redbelly]

[Default User BR]

[ydnar]

I mentioned in an earlier post that I made a decision to proceed with my direct rollover based not only on Vanguard advice and articles on the subject, but also on verbal advice received from the IRS retirement site where you can email questions to the "experts". I have twice asked them for an email confirmation of their verbal guidance and the silence has been deafening. Has anyone else experience this same situation where the IRS refuses to document verbal guidance?

[MediumTex]

[jetjockey]

[Default User BR]

[Shawn]

[jetjockey]

Okay, just got off the phone with Fidelity conversion specialist. I have my 401k at Schwab with my company, and asked them how do I move that after tax 401k to Fidelity without big tax consequences.

Well, guess what? He was very familiar with the confusion out there, and did say that they would put a G on the 1099R, which is a normal rollover to the Roth, HOWEVER, he is very unclear as to how the IRS will interpret or rule on this, and that the jury is still out on whether or not money moved from 401Ks will or will not be treated similarly to the rules for IRA conversions.

His advice to me was to definitely consider waiting until we all get a better picture from the IRS on their ruling in this matter. It is not clearly defined yet, and it would be best to continue probing IRS, and getting a definitive answer from them, publication update for 2010, and clarification by using examples. That's my take anyways...so I'm going to wait, because it could have dramatic tax consequences for me if I make this move without firm conviction that it will be treated in a tax friendly manner.

[jetjockey]

More follow-up.

Shawn, you and I think alike, and am very happy for you, because your method is exactly what I wanted to do, however, this past year, the after-tax pot grew pretty well for me, so now I do have considerable earnings in there that I will have to pay tax on with a conversion, so now, I'm a bit ambivalent about making the move, because the tax hit would be considerable for me, especially in my bracket. Ditto even more for my Traditional IRA which has grown considerably in twenty-five years, using seed capital of those yearly non-deductible contributions. (wish we all had these problems, eh?) It would be a super move if the cost basis in these accounts, like yours, were pretty much equal to the conversion balance, but earnings growth for me makes the decision more difficult. I've always believed in deferring as much tax as possible..."never pay a tax today that can be put off until tomorrow". Because who knows years from now what our tax structure will look like? If a flat tax every came into play, or God forbid, some hybrid of that or a consumption/VAT tax, then all this tax planning might become moot.

Getting back to topic....One other item I saw in Publication 575 that gave me pause...page 29, top of second column, in referring to rollovers from qualified retirement accounts: "any amount rolled over into a Roth IRA is subject to the same rules for converting a traditional IRA into a Roth IRA. For more information, see Converting From Any Traditional IRA into a Roth IRA in chapter 1 of Publication 590."

That phrase is what many blogs, other than this one, are prompting a warning to folks to stand pat, until we truly understand how the IRS is going to treat separate buckets of money coming out of 401ks.

Good luck tho'....I agree very much with your strategy and hope it will not be retroactiveley impacted by any adverse rulings from IRS.

Ray

[Shawn]

[ydnar]

I never received the written response from the IRS that I had requested, but I did get a phone call a while back exactly reversing the position they had taken last year when I originally asked. My initial post describes what I did after receiving their blessing. I can't help but smile at how crazy they make me, but guess I will do what is necessary to correct it all when they finally put out policy. The agent who called said that they were considering their position and , if they change it, will make the new guidance public. I just shake my head over the whole mess.

Randy

[cliffedelgado]

did anyone else notice in IRS publication 590 chapter 2

i had to remove link from post as i'm a new member..

"Unlike a conversion of a traditional IRA to a Roth IRA, rollovers from employer plans to Roth IRAs are not reported on Form 8606. However, for 2010, a rollover from an employer plan to a Roth IRA will be reported on Form 8606."

Although this doesn't say clearly if the after-tax goes to roth ira and pre-tax can go to trad ira, at least it means they'll be keeping better track and there will be a place to declare what you are doing. any comments?

I've gone through the thread. what exactly is the open issue?

is the legality of post-tax going into roth ira at the same time pre-tax is going to trad IRA without invoking the pro-rata rule the issue?

[Redbelly]