post tax contributions in plans
A client couple of mine has old 401K and 403B accounts they want to rollover. They have post tax contributions in both the old 401K and the 403B accounts in addition to pre-tax contributions. One of them now works for a company with a K plan that accepts rollovers and allows in plan conversions to ROTH K. They want to know if the law allows them to roll the post tax contributions into the ROTH K account and put the tax deferred earnings through the ROTH K conversion in the employer plan.
The other spouse works for an educational institution with a 403B which cannot take the old post-tax contributions through a rollover.
Does anyone know if the Small Business Jobs and Credit Act of 2010 addressed this issue and whether this is allowed? Does anyone know if the post-tax contributions can be separated from the tax deferred earnings and rolled into the ROTH K?
I am forwarding a question to the plan TPA to see if the plan document has any provisions allowing or restricting this type of action and would appreciate hearing from anyone who can educate me on handling post-tax contributions in 401K and 403B plans and what can and cannnot be done with them or pointing me to a resource where I can find the answers.
Permalink Submitted by Alan Spross on Fri, 2012-03-30 21:44
The 2010 legislation allows plans to offer in plan Roth rollovers (IRRs) if they also offer the designated Roth option. Plans can optionally offer to accept rollovers from other qualified plans or from IRA accounts. Notice 2009-68 indicates that when direct rollovers are used, post tax and pre tax amounts must be pro rated to each account receiving the rollovers. If the client with the new K plan does a direct rollover from the old to the new plan, the funds will have the same character as the old plan. If the client then does an IRR within the new plan, the rollover will be taxable in the relation of the pre tax balance to the total balance, ie pro rating of the after tax basis. If the client wants to isolate the basis to a Roth account, the client would have to take a lump sum distribution, then complete the rollovers himself, replacing the 20% that will be withheld of the pre tax balance. When the client receives these funds, he can roll the pre tax amount either to a TIRA or to the new 401k plan. After this is done he can roll the after tax amount to a Roth IRA in a tax free rollover, replacing the 20% as needed. This indirect rollover escapes pro rating because the tax code indicates that a distribution to a taxpayer that includes pre tax and after tax amounts can be rolled over and if so the first dollars rolled over are deemed to be the pre tax amounts. This applies whether the pre tax amount is rolled to an accepting employer plan or to a TIRA.
The same applies to the spouse except that a receiving employer plan here does not exist, so her choice is to use IRAs to receive the rollovers. If replacement of the 20% withholding is difficult, perhaps each spouse does the rollover in different years. Of course, they can recover the 20% faster by just reducing their current salary withholding by claiming more exemptions.
While the husband could do an IRR with the new plan, this does not isolate the basis, it prorates it and therefore is not nearly as tax efficient as proceeding with indirect rollovers that can isolate basis. The following is a copy of the suggested 402(f) Notice contained in Notice 2009-68:
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SPECIAL RULES AND OPTIONS
If your payment includes after-tax contributions
After-tax contributions included in a payment are not taxed. If a payment is only part of
your benefit, an allocable portion of your after-tax contributions is generally included in
the payment. If you have pre-1987 after-tax contributions maintained in a separate
account, a special rule may apply to determine whether the after-tax contributions are
included in a payment.
You may roll over to an IRA a payment that includes after-tax contributions through
either a direct rollover or a 60-day rollover. You must keep track of the aggregate
amount of the after-tax contributions in all of your IRAs (in order to determine your
taxable income for later payments from the IRAs). If you do a direct rollover of only a
portion of the amount paid from the Plan and a portion is paid to you, each of the
payments will include an allocable portion of the after-tax contributions. If you do a 60-
day rollover to an IRA of only a portion of the payment made to you, the after-tax
contributions are treated as rolled over last. For example, assume you are receiving a
complete distribution of your benefit which totals $12,000, of which $2,000 is after-tax
contributions. In this case, if you roll over $10,000 to an IRA in a 60-day rollover, no
amount is taxable because the $2,000 amount not rolled over is treated as being aftertax
contributions.
You may roll over to an employer plan all of a payment that includes after-tax
contributions, but only through a direct rollover (and only if the receiving plan separately
accounts for after-tax contributions and is not a governmental section 457(b) plan). You
can do a 60-day rollover to an employer plan of part of a payment that includes after-tax
contributions, but only up to the amount of the payment that would be taxable if not
rolled over.
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