Roth 401k and Roth IRA Retirement Plans Conversion Limits and Rules

Thanks to the Small Business Jobs Act, 401(k) plan participants are now permitted to convert their traditional employee sponsored retirement accounts over into Roth 401(k)s. The change will give many people the ability to better plan for retirement by mitigating tax impacts and leverage benefits currently available via Roth and Traditional IRA plans. Traditional 401(k) plans allow employees to deposit pre-tax dollars (plus employer match) into their accounts and pay taxes after they withdraw the funds at retirement. Whereas, Roth 401(k) holders fund their accounts on post-tax basis but withdraw their contributions tax-free at retirement. In both cases, any investment growth on contributed funds within the retirement account comes free of taxes.

Like Roth IRAs, the Roth 401(k) option is best for people who expect to pay higher taxes in the future; since they don’t have to pay taxes on money they withdraw from a Roth 401(k) at retirement. It is still unclear if employer matches for a Roth 401(k) plan will be taxable or not (the IRS is still to rule on this). Further, to invest in a Roth 401(k) your employer’s retirement savings plan must offer a Roth 401(k) option. Currently only a third of employers offer plans with Roth 401(k)s, but this number is expected to rapidly grow with most employers expected to offer a Roth 401(k) option by the middle of next year.

If you are interested in a conversion, you’ll need to talk to your employer’s payroll or benefits department about whether your plan will allow for the 401(k) to Roth 401(k) rollovers and what additional restrictions might apply. Roth 401(k) plans are expected to become more popular with employees and also the government who hope to raise short-term tax revenue.


[Earlier Update] 401k Rollover and Conversion To Roth Accounts May Soon be Permitted

There has been a lot of news recently on the ability of people to convert their traditional IRA accounts to Roth IRA accounts following legislation that removed income limits caps. But under current law, there is no ability for an investor in an employer-sponsored 401(k) account to make such a conversion to a Roth accounts within the same plan. Now, there are reports that the Senate is going to propose rules that overturn this law and allow certain employees to roll over amounts from their 401k retirement plans to a Roth-type savings account. The provision is part of a package of small business and savings incentives and could be tabled later this week.

The new provision would allow the roll-over of amounts in a 401(k) retirement plan of otherwise permissible distributions, to a Roth-type account in the same plan. It would help employees who are 59 1/2 years old or older, and who want to keep their savings in their current retirement plan but would like to convert it to a Roth-type account for tax savings/minimization during retirement. Participants in a tax-deferred 401(k) are allowed to take distributions beginning at age 59 1/2, but need to pay taxes on distributions taken. Under a Roth IRA plan, taxes are paid on monies when contributed but all gains and principal are tax free on withdrawal.

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2 thoughts on “Roth 401k and Roth IRA Retirement Plans Conversion Limits and Rules”

  1. so this 16500 limit is for employee deduction only or this 16500 includes both, employee contribution + employer match?


  2. Actually the Roth 401K is not really a new plan. According to the IRS designated Roth contributions are just a new type of contribution that new or existing 401(k) or 403(b) plans can accept. The Economic Growth and Tax Relief Reconciliation Act of 2001 added this feature, effective for years beginning on or after January 1, 2006. If a plan adopts this feature, employees can designate some or all of their elective contributions (also referred to as elective deferrals) as designated Roth contributions (which are included in gross income), rather than traditional, pre-tax elective contributions. Starting in 2006, elective contributions can be of two different types: traditional, pre-tax elective contributions and designated Roth contributions.


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