401K distribution of pre 87 and post 86 after tax money
I am retired and I will be starting RMD’s next year . I turn 70 next month.
I thought that I could simplify the process by rolling over my 401k which has pre 1987 and post 1986 “after tax” contributions in it to a regular, (not Roth), I.R.A.
I was advised by the plan administrator’s (Fidelity) “retirement consultant” that I can take a distribution of all of my “after tax” money , both pre 87 and post 86 and deposit it into a non-ira investment such as a money market fund , without any tax consequences or need for additional tax forms ie.(8606)(?) for future filing.
He recommended doing this before the end of this year.
He said that there will not be any 1099’s or other I.R.S forms generated for this “after tax” withdrawal, as it is a return of my money and taxes have all ready been paid on it.
The balance of the 401k ,”before tax” money will be rolled over to an regular I.R.A (not Roth) with Fidelity Funds.
I am just trying to verify that this advice re: the “after tax” disbursement is correct , especially the post 86 part.
Permalink Submitted by Alan Spross on Fri, 2010-07-23 21:19
This has turned into somewhat of a mess what with the recent IRS rulings regarding pro rating of basis vrs isolation of basis. There is no clarity on certain elements of these distributions. But the following can be relied on:
1) It is to your benefit if you can get the after tax contributions into a Roth IRA. This is true even if you will need most of the money soon because you can take these funds out of the Roth without tax or penalty when you want to.
2) You should be able to convert the pre 87 after tax contributions directly to a Roth IRA, because these pre 87 amounts are NOT subject to pro rating. All this is required is that the plan accounted for them separately, which you should be able to tell from your statements.
3) There will be 1099R for all your plan distributions, even after tax amounts. Even though these are not taxable, they must be reported on the 1099R and on your tax return.
The advantage of rolling over the funds before year end is avoiding dealing with RMDs in connection with a rollover. If you waited until January, you would be in an RMD distribution year, and you could not roll over the amount of the RMD to an IRA.
A final decision might be affected by the actual dollar amounts, ie the amount of pre 87 and post 86 after tax contributions and the pre tax balance. For example, if the pre 87 amount is large enough, you could have it converted, then have the post 86 amount go to your taxable account. There is also a way to get all the after tax amounts into the Roth and avoid the pro rate rules, but you have to ask for an indirect distribution. 20% of the pre tax amount must be withheld and you must be able to replace those funds to complete the rollovers. You would then first roll the pre tax amount to a TIRA and then the after tax amount to a Roth IRA. This would be entirely tax free in the end, but you would not get the 20% withholding back until you filed your tax return.
Other methods trigger the uncertainly of the IRS ruling regarding pro rating of the after tax amount. That could result in after tax amounts going to your TIRA, which you do not want as well as some pre tax amounts going to the Roth and triggering a tax.
In summary, they are mostly correct, but left out some options and some areas of uncertainty. There are several discussions posted here about isolating the basis, and you may want to read some of them. You did not mention a Roth IRA as a goal, but for strictly after tax funds it is almost a no brainer, and a Roth has no RMDs. But it may not be to your advantage to convert any pre tax money to the Roth, and that triggers the isolation of basis problem.
Permalink Submitted by JADA HADA on Sat, 2010-07-24 18:03
Most , if not all of the discussions on this board ,regarding this topic ,are related to rolling the “after tax” distributions into a Roth or Traditional I.R.A.
I have no plans to invest the “after tax” distributions in a Roth as I have present needs for the money.
The 401k Plan Adviser says that I can make a direct transfer or withdrawal of the pre87 and post 86 “after tax” dollars from the 401k to myself and place it in non-i.r.a investments such as a money market account, and that it is best to do it this year.
Since I begin R.M.D’s next year I would then rollover the remaining “pre-tax” dollars from the 401k into a traditional i.r.a.
My concern is that I read somewhere the I.R.S does not allow distributions of only “after tax” money from a 401k, that they consider any distribution from a retirement plan in which there is a basis as consisting of both “pre-tax” amounts and after tax contributions.
Can I take a distribution of only my “after tax” contributions?
Permalink Submitted by Alan Spross on Sat, 2010-07-24 18:59
Most likely you can. It has always been done this way, and custodians must issue a 1099R for the after tax funds and another for the pre tax amount with the latter coded to show a direct rollover to an IRA.
This format for distributions also has the potential of being caught up with the isolation of basis problems, but there is no evidence that it has as of now. Thousands of lump sum distributions are done this way every week, and I have not heard of the IRS attempting to enforce a pro rating of after tax amounts with the pre tax amount.
Permalink Submitted by JADA HADA on Sat, 2010-07-24 22:27
Alan, thanks for the information and clarification.
First,I will have all of the “after tax” money distributed before the end of this year.
I will expect to have a 1099R issued for this 2010 distribution indicating the taxable amount as Zero.
Since I begin RMD’s next year , I assume that it is then best to also have the balance of all “pre tax” money rolled over from my 401K to a traditional IRA before the end of this year.
I will expect another 1099R for this distribution.
Permalink Submitted by Alan Spross on Sun, 2010-07-25 02:38
Correct. That will eliminate the RMD from the 401k as there will be a -0- balance on 12/31/2010. However, the value of the pre tax rollover to the TIRA will increase your IRA RMD due for 2011. Since your actual required beginning date is 4/1/2012, you can defer your 2011 IRA RMD to 2012 if you wish, but would then have to take your 2012 RMD in 2012 also.
Be sure to do a direct rollover of the pre tax dollars to the IRA as that will eliminate any withholding.
Finally, if you have highly appreciated company stock shares in your 401k, you might want to investigate “net unrealized appreciation”. Once those shares are rolled to an IRA, NUA cannot be used for those particular shares.