401K Roth provisions in the new Small Business Law
As I understand, the Small Business stimulus bill passed by the Senate yesterday…and expected to be passed by the House—allows a 401K to be converted to a Roth 401(k).
And, Congress expects the taxes paid from this conversion( an estimated $5 billion) to pay for the bill.
?? You could already convert from a 401(k) to a Roth IRA. What is the advantage of doing a conversion and keeping the funds as part of a company sponsored plan? I am assuming they get the benefits of company matching. Are there any other advantages?
Could the custodian immediately offer this feature? Or is there some time leg between the bill becoming effective and the ability to actually do a transfer?
Thanks
Kathy
Permalink Submitted by mk foss on Fri, 2010-09-17 21:44
Currently if you have a Roth 401k and separate from service you can roll it to a Roth IRA. As I understand it, the new provision would allow you to “convert” it to a Roth IRA without a separation from service. The only funds that can go into a Roth 401k are the employee deferrals and earnings – if the company does a match it can only go to the pre-tax 401k.
If someone doesn’t currently have a Roth IRA, they must fulfill the five-year period for tax free distributions after a rollover from a 401k. One advantage of the current proposal would allow the clock to start earlier on the 5 year period – but making a Roth contribution or a small conversion from an IRA or another qualified retirement plan would work as well. If the employer does a match, keeping the funds within the Roth 401k seems like the best deal.
When a law is changed like this, there will be an effective date. No one could act on this rule until the effective date. Also the 401k plan may need to be amended to allow these conversions. I’m not sure that an automatic change for all plans is part of the legislation – if it isn’t then the plan would need to adopt a provision allowing this as well.
Permalink Submitted by Alan Spross on Fri, 2010-09-17 22:10
Another advantage is ERISA creditor protection for account balances and this is broader than the protection available to IRAs. However, better check out the recharacterization options within the QRP to make sure they are as broad as IRA recharacterization options.
This is another example of Congressional budgeting that does not generate new revenue, but merely accelerates revenue that would have been realized anyway in later years, and that will now not be available in those later years.
Permalink Submitted by Alan Spross on Sat, 2010-09-18 04:27
Here is an article on this new provision. But still no explanation of recharacterization options. And as stated, RMDs start at age 70.5 for Roth 401k accounts unless the still working exception applies, and distributions do NOT follow the Roth IRA ordering rules. They come out pro rated with basis, such as TIRA distributions.
http://blogs.forbes.com/ashleaebeling/2010/09/16/turn-your-401k-into-a-r…
Permalink Submitted by Alan Spross on Thu, 2010-10-21 03:01
Here is a detailed summary of all the unresolved issues regarding these in plan conversions. In addition to the obvious negative comparisons with conversion to an IRA, there are so many additional unresolved issues that these conversions are not recommended until the IRS rules on most or all of these issues:
http://www.ici.org/pdf/24611.pdf