Roll over Roth 457 funds to a Roth IRA?
Bottom line question up front: What are the downsides of rolling Roth 457 funds into a Roth IRA at age 49?
I am 49 and retired. I have funds in both my Roth and traditional 457 plan, and I am ready to start drawing on my traditional 457 funds. For reasons I don’t understand, the plan provider does not treat the funds as two separate accounts, but as one account with two money types. As a result, they require that the asset allocation be the same across the Roth and traditional plans. Now that I am ready to start drawing on my funds, I have two options: either take just from the traditional, but take across all funds proportionately (forcing me to sell off some of each of the assets, even though they are down), OR, take from just one fund (my preference, as I would be taking from my money market fund), BUT be forced to take the funds proportionately from both my Roth and traditional money types. Because I am only 49, that means paying taxes on any growth from my Roth funds, which defeats the purpose of the Roth. Either I am forced to sell funds I don’t want to sell, or I am forced to pay tax on earnings from the Roth funds.
What is the downside of just rolling all of the Roth funds into my Roth IRA? I am pretty frustrated with the 457 plan provider anyway, so I’m happy for them to have as little of my money as possible, but are there downsides I’m not thinking of?
Permalink Submitted by Alan - IRA critic on Sat, 2022-02-26 16:36
Legally the plan must account separately for the pre tax and Roth sub accounts, even though the investment holdings and distribution amounts are required to be uniform across both. The advantage of taking distributions directly is that you will not owe the 10% penalty prior to age 59.5 like you would if you withdrew pre tax money from an IRA. But if you did a direct rollover from your Roth 457 to a Roth IRA and took early distributions from your Roth IRA, your contributions would come out first, tax and penalty free. Your Roth 457 contribution amount would be treated as if it were a regular Roth IRA contribution which comes out first under the Roth IRA ordering rules. However, if you are also forced to roll out the pre tax 457b to a TIRA, then all TIRA distributions prior to 59.5 will be subject to the penalty, but you should be focused on tax rates as well as the penalty. If you are retired early with little income, you would normally withdraw from the pre tax account since your tax rates would be low. You would wait to withdraw from your Roth IRA until you added pension or SS income which would drive up your tax rate. Your Roth IRA would be fully qualified and tax free at 59.5 including the entire amount rolled in from the Roth 457. Of course, if you plan to continue working a few more years that would call for a major change to your game plan.
Permalink Submitted by Chad Goeden on Sat, 2022-02-26 17:09
Perfect, thank you. I was unaware that ALL funds from the Roth 457 would be treated as contribution (vs. contribution and earnings) when I roll them into my Roth IRA, so that was especially helpful to learn since I have no idea what that breakdown would be after years of contributing, rebalancing, etc.
Permalink Submitted by Alan - IRA critic on Sat, 2022-02-26 21:37
That wasn’t what I indicated. The Roth 401k contribution amount (the amount you contributed to the plan, but not the gains on those contributions) are treated as Roth IRA contributions. The 1099R reporting the direct rollover to your Roth IRA would show your contributions in Box 5 and that is the amount you need to know to update your Roth IRA accounting. Your plan statement may also provide you with this breakdown up to the last statement date.
Permalink Submitted by Chad Goeden on Wed, 2022-03-09 01:13
Thank you for the clarification. So the growth portion of my Roth 457 account would not be seen as contribution when I roll it into my Roth IRA (which makes perfect sense). I would not be taxed on that growth though, would I? In otherwords, a direct rollover is not seen as a non-qualified distribution is it, even though I am under 59.5? Just want to make sure I’m not about to create a taxable event (on the growth) by rolling over all of my 457 Roth funds to my Roth IRA.
Permalink Submitted by Alan - IRA critic on Wed, 2022-03-09 03:50
The Roth 457 direct rollover to a Roth IRA is not a currently taxable event. However, if you take a distribution from your Roth IRA prior to 59.5 that is more than your contributions to the Roth 457 or the Roth IRA, you would be withdrawing gains, and those gains would be taxable and subject to penalty. But no current tax on the Roth 457b to Roth IRA rollover.