IRA Conversion while Increasing Pre-tax 401(k) Contribution
Assumptions:
– Client has only pre-tax in IRA ($100k) and is not contributing
– Client has a 401(k), no match, and is not contributing – but has enough cash in bank to increase contributions if needed
– Client prefers Roth over pre-tax and wants to either contribute or convert to a Roth bucket
– Investments are roughly the same
What is the best route (any taxes saved doing one vs another)?
1) Contribute pre-tax into 401(k), and then convert that same amount from IRA to Roth IRA
— or —
2) Contribute after-tax into 401(k), and then not process any conversion
Are there any payroll type taxes that would be saved by contributing pre-tax into 401(k) and then converting?
Permalink Submitted by Alan - IRA critic on Mon, 2022-02-28 15:42
No payroll tax impacts either way. Does the current plan provide for Roth deferrals or just after tax non Roth contributions? If the latter, does the plan allow frequent rollovers from the after tax sub account to a Roth IRA? If the plan provides for either Roth or pre tax deferrals and also offers IRRs (in plan roth rollovers), it is possible to contribute pre tax and at anytime roll a portion to the Roth 401k accounts as an IRR. There is no current tax difference as pre tax contributions rolled into Roth will be taxable and offset the pre tax feature of the original contribution, ending up basically the same as if Roth 401k contributions were made in the first place. Generally, it is preferable to make the initial decision how to contribute rather than doing an IRR to offset the pre tax contribution because there is a 5 year holding period for IRRs to avoid penalty prior to age 59.5.
Permalink Submitted by brcwm on Mon, 2022-02-28 15:48
Sorry, should have used better term. In this example, the 401(k) is a Roth 401(k). So, none of this would be the true “after-tax” account above and beyond the normal deferral. Does that make any difference on the question of contribute pre-tax, then convert with IRA funds – or – just contriubte to Roth 401(k)? Thanks.
Permalink Submitted by Alan - IRA critic on Mon, 2022-02-28 15:53
No, it makes no difference for current year taxes if the rollout to a Roth IRA was allowed. However, an active employee under 59.5 is not allowed to roll out pre tax 401k deferrals, so any rollover to a Roth IRA would have to wait until after 59.5 or after separation from service.