Because of the Small Business Jobs and Credit Act of 2010 (H.R. 5297; Pub. L. No. 111-240), signed into law by President Obama on September 27, 2010, many people want to know what an in-plan Roth conversion is. This new provision makes it possible for any employer-sponsored plan, that includes a qualified Roth contribution program, to make this new feature available.
Employees who participate in an employer-sponsored retirement savings plan can now elect to roll over any eligible rollover distribution of non-Roth sums into an individual Roth account within the same plan.
Before this law was enacted, participants could only make a Roth conversion by rolling over their distribution completely out of their employer-sponsored plan and then into a separate Roth IRA.
Current or former participants are eligible to exercise this option, along with surviving spouses of participants. However, non-spouse beneficiaries of participants are excluded from this option.
Eligible participants can elect to accomplish an in-plan Roth conversion either directly, or within 60 days. Of course, the conversion is taxable, but without the usual 10% early withdrawal penalty. And for the 2010 tax year, the applicable taxes can be paid in two equal installments...one in 2011 and the other in 2012.
Moreover, as of 2010, the income limits which used to apply to Roth conversions have been eliminated.
As with any new law which affects businesses and their employees, there are frequently asked questions which come up. Here are some of the more common questions.
What Types of Plans Fall Under In-Plan Roth conversion?
Section 401(k) plans, 403(b) plans, and beginning in 2011, governmental 457(b) plans. The provision does not apply to money purchase pension plans, profit sharing plans, or defined benefit plans (e.g., traditional or cash balance plans). A Roth feature may be added to a 401(k) (or 403(b)) plan now, but it cannot be limited to Roth conversions.
Are Business That Provide Employer-Sponsored Plans Required to Offer This Feature?
Currently, plan sponsors are not required to offer this new feature. In fact, there may have been a lot of hesitation to make it available in 2010 because of all the administrative and employee relations hurdles needed to be overcome before properly implementing this feature.
Is There a Limit To the Amounts Which Are Eligible For Conversion?
Any contributions which are vested, along with any earnings would be considered to be eligible for conversion. These include: (1) pre-tax 401(k) and 403(b) deferrals (beginning in 2011, governmental 457(b) deferrals), and their earnings, (2) matching contributions, and their earnings, (3) profit sharing contributions, and their earning, and (4) after-tax contributions, and their earnings.
Are There Any Distributions Which Are Ineligible for Conversion?
Distributions which are excluded from a Roth conversion include hardship distributions, required minimum distribution (RMD) payments, lifetime payments, installment payments of 10 years or more, certain corrective distributions, etc.
How Will a Roth Conversion be Reported to the IRS?
A Roth conversion will be reported on Form 1099-R similar to a direct rollover to a Roth IRA from the plan. While there is no federal income tax withholding required, employers can choose to allow voluntary withholding.
However, it still remains to be seen, if an employee elects voluntary withholding whether or not the IRS will consider the withheld amount as a distribution and then levy a 10% early distribution on that amount unless an exception applies (e.g., age 59-1/2, age 55 and retired), in which case, separate 1099-Rs will be required.
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