Firms offer advice on Roth 401(k) transfers

Almost a week after being offered as a welcome spin-off of the government's last-minute, temporary fix to the "fiscal cliff" fiasco, several firms are warning retirement advisors and plan sponsors to be careful when discussing in-plan Roth 401(k) transfers.

The new American Taxpayer Relief Act of 2012 does indeed remove the traditional stipulations which restricted making an in-plan jump from a traditional 401(k) to the pre-taxed Roth 401(k) - leaving a job, retiring, disability or reaching age 59 1/2 - but experts warn that the Act doesn't necessarily create a one-step solution for every 401(k) participant.

Most importantly, a transfer will now no longer be treated as having violated the rules of the plan types sourced for a Roth conversion - the 401(k), 403(b) and the 457(d).

Sungard/Relius's briefing on the change suggests that many of the rules applicable for in-plan Roth rollovers will apply to in-plan Roth transfers, though there will be differences as the rules cover transfers, not rollovers.

"What distinguishes the two provisions is the requirement that the amount converted to Roth contributions be distributable (hence the use of the phrase in-plan Roth rollover); In-plan Roth transfers have not such restrictions and therefore all amounts can be converted to Roth."

According to the brief, early inquiries have suggested the new Roth transfers were probably going to be more popular than rollovers, and questions were raised as to whether or not the IRS will permit safe harbor 401(k) plans to implement and allow in-plan Roth transfers this year, as existing safe harbor notice did not reflect the availability of this option.

Transamerica's Center for Retirement Studies issued a bulletin on the changes and pointed out that more than a few questions remain: Will amounts converted that are not currently eligible for distribution and rollover, continue to be subject to the distribution rules that applied pre-conversion?

While those details are nailed down, the Transamerica Center's general suggestions to plan administrators and recordkeepers is to consider establishing a tracking or recordkeeping mechanism to help differentiate between in-plan Roth conversions made from amounts not currently eligible for distribution and rollover, from those made from amounts that are eligible.

Some of the transfer rules do remain the same. Offering a Roth 401(k) transfer is up to a plan sponsor and isn't necessarily a given (or even a requirement), a technicality participants looking to take advantage of the change need to understand.

Participants who make a rollover conversion are subject to ordinary income tax on the amount covered, but are not subject to the 10 percent early distribution tax.

Conversions are not subject to mandatory or optional witholding. But as the conversion amount is subject to ordinary income tax, the participant should consider increasing their witholding or making estimated tax payments outside the plan to avoid any underpayment penalties.

As well, if the plan was subject to spousal consent requirements, spousal consent is not required for a transfer.

These are just some of the initial reactions to the Roth changes: The best advice, of course, is to consult with your plan administrator and see if there are more specific pieces of advice that can be passed along to participants who may be interested in making a transfer sooner than later.


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