Eligibility for 401k transfer to Inherited Roth IRA
Is AGI or MAGI used to determine eligibility to transfer to an inherited Roth IRA? Here are the facts: A 24-yr old single individual is named as beneficiary of his deceased uncle’s 401k. Uncle died prior to his RBD. Beneficiary’s AGI is $64,000, and is inheriting $80,000 from the 401k. The plan allows the transfer.
IRS Code Section 408A(c)(3)(C)(i) states, “Generally, amounts transferred or converted from a traditional IRA into a Roth IRA must be included in gross income but are not considered when determining the $100,000 AGI limit.”
Does this appy to transfers from 401k’s? IRA Notice 2008-30 states, “In the case of a distribution from an eligible retirement plan other than a Roth IRA, the MAGI and filing ststus of the beneficiary are used to determine eligibility to make a qualified rollover contribution to a Roth IRA.”
Also are minimum distributions required? Can an any amount be taken without penalty?
Permalink Submitted by Alan Spross on Mon, 2008-06-23 19:40
Yes, the MAGI limit of 100,000 does apply to direct Roth conversions until 2010, as confirmed in Notice 2008-30. Since the conversion income is not included in determining the 100,000 threshold, this individual should be able to complete the Roth transfer.
RMDs do apply as they do for any non spouse inherited Roth IRA account. There are no early withdrawal penalties since this is an inherited IRA, but there could be excess accumulation penalties if beneficiary fails to take RMDs. The ordering rules apply to determine taxation of RMDs or other distributions until the inherited Roth meets the 5 year holding requirement.
It is interesting that a non spouse beneficiary of a TIRA cannot roll it over to an inherited Roth, but such a beneficiary of a QRP can.
Permalink Submitted by [email protected] on Mon, 2008-06-23 22:56
Alan,
You noted “It is interesting that a non spouse beneficiary of a TIRA cannot roll it over to an inherited Roth, but such a beneficiary of a QRP can.”
Since the transfer of assets between IRA’s and qualified plans has been liberalized in the last few years, would you please venture a crystal-ball opinion as to whether and when the nonspousal beneficiary of a TIRA will be allowed to roll it over to an inherited Roth or to Roth convert an inherited TIRA.
Thank you.
Permalink Submitted by Alan Spross on Mon, 2008-06-23 23:13
I would not hazard a guess as to when, but the ability to convert from a QRP certainly opens the door to this expansion. Add to this the need to accelerate tax revenue whenever possible, and it would not be surprising to see proposals to allow this crop up in the relatively near future.
Permalink Submitted by Sidney Poretsky on Mon, 2008-06-23 23:38
The 24-yr old who inherits a 401k from his uncle and transfers it to a Roth IRA must take RMD’s. How does the 5-yr/age 59-1/2 rule apply in this case? Are there any penalties or income tax if withdrawals are taken that exceed the RMD amounts? How would the ordering rules apply? If the beneficiary is going to be taking money out anyway, would there be any advantage of a Roth IRA vs. an IRA?
Permalink Submitted by Alan Spross on Tue, 2008-06-24 00:16
Good question, but since there has not been any releases from the IRS that indicate any special or unique rules for these inherited Roths, the rules would presumably follow existing rules for non spouse inherited Roth IRAs. What is different here is that no Roth existed for the owner, therefore there was no chance for a 5 year holding period to even begin.
Since these inherited Roth accounts cannot be aggregated with other Roth IRAs unless inherited from the same decedent, they would have to start the 5 year holding period from scratch. In all but the most extreme situations the RMD would be composed of conversion contributions exempt from the conversion holding period because the account is inherited and coded with a 4 on the 1099R (death benefit).
Only if the entire conversion is distributed prior to the 5 year holding period would earnings come into play and that would only be earnings accrued after the conversion. Those earnings would be taxable until the 5 year holding period resulted in the inherited Roth becoming qualified.
The RMD is only the minimum requirement and there is no restriction from taking out more or even draining the account. If the Roth was drained in a short time, the account would likely contain relatively little in the amount of earnings.
You asked if the beneficiary was going to drain the account quickly, what there be an advantage to doing the conversion? Probably not much unless having the taxable income diverted to the conversion year constituted an advantage or if there was an earnings spike in the Roth prior to a total distribution.
Permalink Submitted by Sidney Poretsky on Thu, 2008-06-26 00:18
Thank you for the information you have provided. It has been most helpful. Two further questions: the RMD from the inherited Roth IRA has to be taken by 12/31 of the year following the year of death. If death occured this year and the 401k is transferred this year to the inherited Roth IRA, does that mean that if the beneficiary waits to next year to start taking RMD’s he would have to take a double distribution, one based on his age this year and one based on his age next year?. Also if the 401k is transferred from Custodian A to an Inherited Roth IRA with Custodian B, who reports the conversion amount to the IRS for the taxes that will be due?
Permalink Submitted by Alan Spross on Thu, 2008-06-26 00:54
In your example, there would not be an RMD for the year of death unless the plan owner was already subject to RMDs. Otherwise, the beneficiary’s first inherited Roth IRA RMD would be based on the Roth balance on 12/31 of the year of death and the beneficiary’s attained age in the following year. There is no double distribution.
With respect to custodian reporting, the conversion distribution is made by the employer plan (A), and they would report it on a 1099R as a death benefit direct rollover.