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Roth In-Plan Rollover

In case you are new to the word Roth, a Roth IRA is a retirement account (note – I’m in the US, and most of my tax related writing is going to pertain to US tax laws) which is the opposite of the traditional IRA. The traditional IRA let’s you deduct the deposit from your income and enjoy years of tax deferral, paying tax when you with the funds, presumably at retirement. A Roth IRA lets you make deposits with money that’s already been taxed, but the current law says it will never be taxed again, not even when withdrawn.

Now, the 401(k), 403(b) and starting this year, the 457(b) can have a Roth side, where similar to the IRA, deposits are post tax. Given the Traditional (pre-tax) 401(k) has been around for 31 years now, that’s quite the balance sitting there. Now, the IRS regulations permit you to perform an in-plan rollover, converting your employee retirement plan from the traditional to the Roth side if your employer has adopted the rules as well. The amount converted is taxable as ordinary income, and no penalty is due as might be for an early withdrawal.

I admit, there’s no absolute answer on whether converting to Roth, whether from an IRA or 401(k) is advisable. But I will point out, if you are in the 15% bracket, or lower, it’s worth considering. From my friends at Fairmark, I can see the marginal rates for 2011. For a married couple, the 15% bracket ends at $69,000. The exemptions and standard deduction add another $15,300, so total gross of $84,300 or lower and you are in the 15% bracket. My low-risk strategy is to convert just the amount to “top off” that 15% bracket, bringing your taxable income just to that $69,000 level. Note, if you convert your IRA, you are allowed to recharacterize back to traditional, a financial do-over, but this is not permitted within the 401(k) to Roth 401(k) process. So do the math, choose carefully, ask questions.

  • John Len February 15, 2011, 6:56 pm

    Hey Joe: Can a employer set up a 401k plan that does not allow a in-plan rollover from a 401k to Roth IRA?

  • JOE February 15, 2011, 7:34 pm

    The in-plan option is to convert from the 401(k) to Roth 401(k). It’s permitted by the IRS, but not required of the plan. Unfortunately.

  • John Len February 22, 2011, 12:50 pm

    Thanks for the reply Joe. Do you know why would a plan disallow the option? Who and how should I approach in the plan administration to ask if they are willing to make a change?

  • JOE February 27, 2011, 9:59 am

    John – sorry for the delay, was on vacation and had no access.
    I’d start with HR. Human Resources should be able to hook you up with the right contact within your company.
    As far as disallowing goes – I really don’t see why they’d not offer this. There’s no option to recharacterize, so it’s a one time paperwork issue and a nice little benefit for the employees who’d like this option.

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