Mega Backdoor Roth Question

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Todd.M
Posts: 31
Joined: Thu Feb 23, 2017 9:02 am

Mega Backdoor Roth Question

Post by Todd.M » Wed Mar 08, 2017 11:15 am

First of all I’d like to say I recently discovered this forum and really appreciate what I’ve learned so far.
Because of a tip I received from a Boglehead I started looking into the Mega Backdoor Roth process.
My company’s plan allows after-tax contributions and non-hardship withdrawals of my after tax 401K contributions.

My 401k contributions are capped at 30% of my pay. Making my max contribution $18,000 pre-tax, and $3,000 after-tax for my $70,000 income.

When I spoke to a Fidelity (plan administrator) representative I was told the withdrawals would be co-mingled containing pre-tax, after-tax, and company match with no way to segregate.

Is this correct? Is this not worth the hassle, should I just put that $3,000 into a taxable account?
Originally I was looking into this for my girlfriend but she was tagged as a HCE and capped at 13%, so her max after-tax contributions would only be ~$2000.

From my SPD:

Withdrawals will automatically be taken from the following amounts:
• Your unmatched after-tax savings and associated earnings.
• Company Matching Contributions that have been in the plan for at least two years and associated earnings. Once you
have participated in the 401k for at least five years, a withdrawal may include all Company Matching Contributions, plus
associated earnings.
• Your matched after-tax savings that have been in the plan for at least two years and associated earnings. Your
withdrawal may include matched after-tax savings that have been credited to your account for less than two years, but
in this case, your future Company Matching Contributions will be suspended for the next six months.
• Rollover contributions and associated earnings, subject to certain IRS limits.

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Pranav
Posts: 177
Joined: Thu Aug 25, 2016 11:25 am
Location: Austin, Texas, United States

Re: Mega Backdoor Roth Question

Post by Pranav » Thu Mar 09, 2017 9:41 am

If withdrawals are co-mingled, I would put extra money into taxable account. I would also make sure I have contributed maximum to all other eligible tax-advantaged accounts (IRA, HSA, etc.) before investing in taxable account.
Pranav

pyld76
Posts: 131
Joined: Thu Feb 09, 2012 4:15 pm

Re: Mega Backdoor Roth Question

Post by pyld76 » Thu Mar 09, 2017 10:00 am

What they are likely indicating is that, for whatever reason, they won't cut you two checks (one for the after-tax contributions for which you owe no tax, and one for the after tax earnings, for which you do owe tax).

That may be a plan by plan thing. Fidelity has offered to cut me two checks (post IRS Notice 2014-54), with the idea being that you could roll the contributions into a Roth IRA and the earnings into a traditional IRA. They may not, for your plan.

That said, I don't have them do that. For simplicity sake, I have them cut me a single check (of after-tax contributions and earnings) and I roll that info my Roth IRA. I then pay the taxes due on the earnings (indicated on the 1099-R they will provide you) each year. Because I do this yearly, there are typically not a ton of earnings on which to pay tax. If you are not charged a fee for the transaction, I'd just do it 2 to 4 times a year and pay the little tax owed.

I'd absolutely do this over a taxable account. Particularly for the after-tax contributions you make, they are Roth-sheltered for your lifetime once you have them in your Roth IRA.

Todd.M
Posts: 31
Joined: Thu Feb 23, 2017 9:02 am

Re: Mega Backdoor Roth Question

Post by Todd.M » Thu Mar 09, 2017 11:27 am

Pranav wrote:If withdrawals are co-mingled, I would put extra money into taxable account. I would also make sure I have contributed maximum to all other eligible tax-advantaged accounts (IRA, HSA, etc.) before investing in taxable account.


Thank you for your advice Pranav. I’m currently maxing out all of my eligible tax-advantaged accounts.

Is having after-tax money in a 401k the same worse or better than having it in a taxable account? Let’s assume they are invested in the same thing with the same fees for simplicity.

ved
Posts: 633
Joined: Sat Jan 18, 2014 6:56 pm

Re: Mega Backdoor Roth Question

Post by ved » Thu Mar 09, 2017 11:45 am

Read your SPD carefully...especially the section that discussed in-service withdrawals.
From what you quoted, the first point talks about "Your unmatched after-tax savings and associated earnings." - which is exactly what you wanted to rollover to the Roth IRA.
Also, check how often can the non-hardship in-service withdrawals - it runs the spectrum from unlimited to once (or none) per year, and is dependent on the specific plan your employer has.

If you haven't contributed anything to after-tax yet, I would contribute at least a small amount - $100, $500, whatever. And then see if you can see it in listed separately in your online 401k site. And then, call Fidelity (assuming they are your 401k administrator) - have them open a Roth IRA account, and then ask them to roll the after-tax (contributions + earnings) to the Roth 401k.
If they still say, they can't then, you wouldn't have lost much - you have only a small amount of after-tax contributions that would not impact your long-term much at all. But, if they can roll it over to the Roth 401k, then you have this avenue to add to the Roth IRA consistently.

I seriously doubt that Fidelity saying that there is no way to segregate the funds between pre-tax and after-tax. If/when you leave your employer/retire, and want to rollover the 401k to an IRA, then Fidelity has to separate pre-tax (that would go to traditional IRA), after tax (that would go to Roth IRA), and all earnings/ employer matching (that would go to traditional IRA).

Todd.M
Posts: 31
Joined: Thu Feb 23, 2017 9:02 am

Re: Mega Backdoor Roth Question

Post by Todd.M » Thu Mar 09, 2017 11:57 am

pyld76 wrote:What they are likely indicating is that, for whatever reason, they won't cut you two checks (one for the after-tax contributions for which you owe no tax, and one for the after tax earnings, for which you do owe tax).

That may be a plan by plan thing. Fidelity has offered to cut me two checks (post IRS Notice 2014-54), with the idea being that you could roll the contributions into a Roth IRA and the earnings into a traditional IRA. They may not, for your plan.

That said, I don't have them do that. For simplicity sake, I have them cut me a single check (of after-tax contributions and earnings) and I roll that info my Roth IRA. I then pay the taxes due on the earnings (indicated on the 1099-R they will provide you) each year. Because I do this yearly, there are typically not a ton of earnings on which to pay tax. If you are not charged a fee for the transaction, I'd just do it 2 to 4 times a year and pay the little tax owed.

I'd absolutely do this over a taxable account. Particularly for the after-tax contributions you make, they are Roth-sheltered for your lifetime once you have them in your Roth IRA.


Thanks pyld76. Tax free earnings do appeal to me, I will continue to pursue this.

Todd.M
Posts: 31
Joined: Thu Feb 23, 2017 9:02 am

Re: Mega Backdoor Roth Question

Post by Todd.M » Thu Mar 09, 2017 12:13 pm

ved wrote:Read your SPD carefully...especially the section that discussed in-service withdrawals.
From what you quoted, the first point talks about "Your unmatched after-tax savings and associated earnings." - which is exactly what you wanted to rollover to the Roth IRA.
Also, check how often can the non-hardship in-service withdrawals - it runs the spectrum from unlimited to once (or none) per year, and is dependent on the specific plan your employer has.

If you haven't contributed anything to after-tax yet, I would contribute at least a small amount - $100, $500, whatever. And then see if you can see it in listed separately in your online 401k site. And then, call Fidelity (assuming they are your 401k administrator) - have them open a Roth IRA account, and then ask them to roll the after-tax (contributions + earnings) to the Roth 401k.
If they still say, they can't then, you wouldn't have lost much - you have only a small amount of after-tax contributions that would not impact your long-term much at all. But, if they can roll it over to the Roth 401k, then you have this avenue to add to the Roth IRA consistently.

I seriously doubt that Fidelity saying that there is no way to segregate the funds between pre-tax and after-tax. If/when you leave your employer/retire, and want to rollover the 401k to an IRA, then Fidelity has to separate pre-tax (that would go to traditional IRA), after tax (that would go to Roth IRA), and all earnings/ employer matching (that would go to traditional IRA).


Thank you for the great plan ved.

I am allowed up to seven regular withdrawals each calendar year.

I agree with your point when you leave your employer/retire, and want to rollover the 401k to an IRA, and those specific rules exist. Fidelity manages many plans with different rules, which is why they are unfamiliar with the specifics with my plan – I believe this why the confusion exists, and why they are giving me inconsistent answers.

I plan on following your advice, thanks again.



From my SPD:
ROTH CONVERSIONS
It’s possible to use a rollover to “convert” amounts in the 401k into Roth contributions in a Roth IRA.

For example, assume your account balance consists of pre-tax contributions, after-tax contributions, Company Matching
Contributions and earnings on all these amounts. If you no longer work for the Company (or any affiliate) you could take a
distribution of your entire account balance and roll it directly into a Roth IRA. You would have to pay taxes currently on the
earnings, your pre-tax contributions and the Company Matching Contributions (but not the after-tax contributions, since
those would have been taxed when contributed to the plan). However, the 10% early distribution tax and mandatory 20%
withholding wouldn’t apply, and a subsequent qualified distribution from the Roth IRA would be free from federal income
taxes, including any post-rollover earnings.

It is also possible to take a withdrawal or distribution and split it into two rollovers, one to a Roth IRA and the other to a
regular IRA. This could allow you to convert your after-tax 401k contributions to Roth contributions in a Roth IRA, while
avoiding current tax on the rest of your withdrawal or distribution which would be rolled over to the regular IRA. (Different
rules may apply if you have any existing regular IRAs when you do this kind of conversion.)

Note that a rollover of Roth contributions and earnings is not a conversion, and is subject to the regular rules described
above. For example, if a non-qualified Roth distribution is paid to you from the 401k, you’ll be taxed unless you roll the taxable
portion to another eligible retirement plan within 60 days.

pyld76
Posts: 131
Joined: Thu Feb 09, 2012 4:15 pm

Re: Mega Backdoor Roth Question

Post by pyld76 » Thu Mar 09, 2017 8:02 pm

Todd.M wrote:
It is also possible to take a withdrawal or distribution and split it into two rollovers, one to a Roth IRA and the other to a
regular IRA. This could allow you to convert your after-tax 401k contributions to Roth contributions in a Roth IRA, while
avoiding current tax on the rest of your withdrawal or distribution which would be rolled over to the regular IRA. (Different
rules may apply if you have any existing regular IRAs when you do this kind of conversion.)


If they know enough to tell you this, you can almost certainly get them to cut you the two checks, or one (and just pay taxes on the earnings). I'd call fidelity back.

David Scubadiver
Posts: 397
Joined: Thu Mar 24, 2016 8:40 am

Re: Mega Backdoor Roth Question

Post by David Scubadiver » Mon Mar 13, 2017 7:05 am

Why do you need two checks? Money is fungible. You don't need to actually use the physical check to do a rollover. Can't one just make sure they break down the amounts so you know what is attributable to what.

cherijoh
Posts: 3941
Joined: Tue Feb 20, 2007 4:49 pm
Location: Charlotte NC

Re: Mega Backdoor Roth Question

Post by cherijoh » Mon Mar 13, 2017 7:39 am

pyld76 wrote:What they are likely indicating is that, for whatever reason, they won't cut you two checks (one for the after-tax contributions for which you owe no tax, and one for the after tax earnings, for which you do owe tax).

That may be a plan by plan thing. Fidelity has offered to cut me two checks (post IRS Notice 2014-54), with the idea being that you could roll the contributions into a Roth IRA and the earnings into a traditional IRA. They may not, for your plan.

That said, I don't have them do that. For simplicity sake, I have them cut me a single check (of after-tax contributions and earnings) and I roll that info my Roth IRA. I then pay the taxes due on the earnings (indicated on the 1099-R they will provide you) each year. Because I do this yearly, there are typically not a ton of earnings on which to pay tax. If you are not charged a fee for the transaction, I'd just do it 2 to 4 times a year and pay the little tax owed.

I'd absolutely do this over a taxable account. Particularly for the after-tax contributions you make, they are Roth-sheltered for your lifetime once you have them in your Roth IRA.


+1

I agree with your interpretation. If the plan has the payout ordering rules OP posted, then they ARE tracking the amounts of after-tax, pretax and matching contributions.

Since OP can make 7 in-service rollovers per year, earnings should be minimal.

Spirit Rider
Posts: 6195
Joined: Fri Mar 02, 2007 2:39 pm

Re: Mega Backdoor Roth Question

Post by Spirit Rider » Mon Mar 13, 2017 8:33 am

David Scubadiver wrote:Why do you need two checks? Money is fungible. You don't need to actually use the physical check to do a rollover. Can't one just make sure they break down the amounts so you know what is attributable to what.

I believe that if they cut you one check, they treat the pre-tax component as taxable and issue one 1099-R. That is fine if you want the entire amount to go to a Roth IRA.

However, if you want to rollover the after-tax contributions to a Roth IRA and the pre-tax amounts to a Traditional IRA. It must be done with two checks to avoid the treatment the pre-tax amounts as taxable and issue two 1099-Rs.

David Scubadiver
Posts: 397
Joined: Thu Mar 24, 2016 8:40 am

Re: Mega Backdoor Roth Question

Post by David Scubadiver » Mon Mar 13, 2017 9:11 am

Can't you just correct the 1099R amounts when you file?

Spirit Rider
Posts: 6195
Joined: Fri Mar 02, 2007 2:39 pm

Re: Mega Backdoor Roth Question

Post by Spirit Rider » Mon Mar 13, 2017 9:45 am

David Scubadiver wrote:Can't you just correct the 1099R amounts when you file?

The 1099-R is also reported to the IRS. Your return would have to match their copy.

David Scubadiver
Posts: 397
Joined: Thu Mar 24, 2016 8:40 am

Re: Mega Backdoor Roth Question

Post by David Scubadiver » Mon Mar 13, 2017 9:57 am

Spirit Rider wrote:
David Scubadiver wrote:Can't you just correct the 1099R amounts when you file?

The 1099-R is also reported to the IRS. Your return would have to match their copy.
Taxes are not my forte, but if they issue an incorrect 1099R, you certainly have the right to correct it on your return. I would first write to the issuer and ask that they correct it, explaining the error. And if that doesn't result a change, I'd correct it on the return, explaining the error. It may prevent you from e-filing, but that isn't the end of the world.

Spirit Rider
Posts: 6195
Joined: Fri Mar 02, 2007 2:39 pm

Re: Mega Backdoor Roth Question

Post by Spirit Rider » Mon Mar 13, 2017 10:17 am

David Scubadiver wrote:
Spirit Rider wrote:
David Scubadiver wrote:Can't you just correct the 1099R amounts when you file?

The 1099-R is also reported to the IRS. Your return would have to match their copy.
Taxes are not my forte, but if they issue an incorrect 1099R, you certainly have the right to correct it on your return. I would first write to the issuer and ask that they correct it, explaining the error. And if that doesn't result a change, I'd correct it on the return, explaining the error. It may prevent you from e-filing, but that isn't the end of the world.

I don't believe the single 1099-R would be incorrect. IRS Notice 2014-54 says this:

REPORTING REQUIREMENTS
Even though certain multiple disbursements to different destinations are treated as a single aggregated distribution under the first paragraph of section III of this notice, each disbursement may be required to be reported on a separate Form 1099–R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc., in accordance with the Instructions to Form 1099–R. In preparing the Form 1099–R, the assignment and allocation rules in section III must be taken into account in determining the amount of pretax contributions assigned or allocated among direct rollovers and any amounts paid to the recipient.


I believe if a single check is cut and it includes pre-tax assets going to a Roth IRA, that would require the source custodian to issue a single 1099-R with the pre-tax assets recorded as taxable. Only if the source custodian directs it to two destination account via two checks, can they issue two 1099-Rs indicating the pre-tax assets are not taxable.

This is actually beyond my comfort level so hopefully Alan or someone else more knowledgeable of reporting requirements will chime in.

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