Understanding Roth “In-Plan” Rollovers

Thanks to legislation passed in 2010, you now have more options for saving money in your retirement savings plan than ever. The Small Business Jobs Act includes a provision that allows participants to rollover (convert) existing before-tax money in 401(k), 403(b), and governmental 457(b) plans to Roth money within the retirement plan. The information is a general overview of in-plan rollovers, but if you need more specific information—or want to initiate a rollover—please contact Prudential Retirement® at 1-877-778-2100.

What exactly IS a Roth in-plan rollover?
A Roth in-plan rollover” is the act of converting eligible dollars in a retirement plan to “Roth money” within the plan. Even though the money stays in the retirement plan (unless federal income tax withholding is elected), any converted amounts are treated as distributions and are generally taxable in the year of conversion.  There is no tax penalty for amounts that are converted and stay within the plan.  Once converted, Roth assets grow tax-deferred and may be distributed income tax-free if certain requirements are met. Generally, Roth distributions are considered qualified and available income tax-free and penalty-free when the following occur:

  • The account has been open for five tax years and the distribution is made on or after the date you:
    • Reach age 59½ (if applicable),
    • Become disabled, or
    • Die

However, at this point no formal IRS guidance has been issued that specifically defines when the five-year clock begins ticking for a Roth in-plan conversion. You may want to consult with your own tax, financial and/or legal advisors.

Who is eligible?
In order to convert some or all of your eligible retirement plan balances into Roth dollars, you must:

  • Be a participant (or spousal beneficiary) in a retirement plan that allows in-plan Roth rollovers
  • Have balances available for distribution from the plan (either in-service or terminated)

What can be converted?
If your plan permits Roth in-plan rollovers, you can only convert amounts that are considered “distributable” under the terms of your plan. Because each plan sets its own distribution rules, please check your plan documents for specific information about your plan. Keep in mind:

  • Participant before-tax contributions are generally distributable only upon termination of employment, death, disability or after age 59½ (if applicable).
  • Vested matching and profit sharing contributions can generally be distributed while a participant is actively employed if the participant meets applicable plan rules
  • After-tax and rollover contributions are usually distributable at any time.

It’s generally understood that a Roth in-plan rollover is irrevocable and there’s no option to undo it at a future date. The IRS has been asked to issue guidance on this and other topics.

Why would I consider an in-plan Roth rollover?

When deciding whether you should consider an in-plan Roth conversion, here are some important things to think about:

A Roth in-plan rollover might be right for you, if you:

  • Want all, or a portion, of your retirement income to be federal income tax-free
  • Think your tax rate in the coming years will be higher than it is today
  • Want to pass along an account with favorable tax treatment to your heirs
  • Won’t need to access the converted amount for at least five years

A Roth in-plan rollover might not be a good option for you, if you:

  • Are concerned about reducing your retirement savings by the amount of tax due on the converted balance in the year of conversion and the length of time it could take to replenish your savings
  • Think your tax rate will be lower in the future than it is today
  • Are concerned that future legislation could change the tax code, making Roth accounts no longer tax-free

Of course, the approach you should take depends on your individual situation and overall retirement planning strategy. You are encouraged to consult with your own tax, financial and/or legal advisors for advice regarding your own particular situation. Keep in mind that withdrawal of earnings prior to age 59½ or, if later, before the Roth account has been open for 5 tax years, are subject to a 10% federal tax penalty unless an exception applies, in addition to ordinary income taxes.

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This information has been provided for your benefit and is not intended or designed to be tax advice. Neither Prudential Retirement, nor any of its representatives, may give legal or tax advice.