After tax 401k – can it roll to a Roth IRA?
I see this has been touched on a few times, but did not see a clear answer. A client has $200,000 in a prior employer 401k, of that $17,000 is after-tax contributions. Fidelity (401k custodian) seems to be saying that the $17,000 can be rolled over directly into a Roth IRA with the remaining $183,000 going to the traditional IRA. Is that correct? The client is age 62 but his income exceeds the limit for Roth contributions and as such has no current Roth IRA.
Permalink Submitted by Alan Spross on Tue, 2011-12-27 20:26
Unless the 17k of after tax contributions were made prior to 1987, being able to “isolate the basis” to only the Roth IRA is questionable based on IRS Notice 2009-68, since a former employee qualifies to distribute the entire plan balance.
Doing twin rollovers as mentioned by Fidelity has apparently worked for the last 2 years since plan administrators have not been provided with IRS guidance in 1099R issuance in this situation. And it is also far too late to provide such guidance for 2011 distributions. However, there is a risk that sometime in 2012 the IRS could provide such guidance mandating pro rating of the basis between the TIRA and the Roth IRA rollovers.
However, there is a method that is not exposed to the IRS Notice and that is to request an indirect distribution of the entire balance to the employee rather than doing direct rollovers. The employee then rolls the pre tax balance to a TIRA first, but must REPLACE the mandatory 20% wittheld amount, and last roll the after tax basis (17k in this case) to a Roth IRA. The obvious drawback is having the cash to replace the 20% mandatory withholding to complete the rollovers. The withholding is credited when filing the tax return.
If the client could complete the direct rollovers in 2011 as mentioned by Fidelity, the risks of IRS problems with the direct rollovers is much less than waiting until 2012, but it is now probably too late to get the rollovers processed.