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

This article was last updated on July 22

[Updated] With approval of 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.

Contribution Limits: In 2012 Roth 401(k) plans allow you to contribute up to $17,000 if you’re under age 50, and $22,500 if age 50 or over. This limit applies to all your 401(k) plans, no matter if it’s a Roth or a Traditional 401(k) plan, or a combination of both. So you can’t save $17,000 in a traditional 401(k) and another $17,000 in a Roth 401(k) plan. Other restrictions within your plan may also prevent you from rolling over portions of your 401(k) before certain age or time limits. E.g. traditional 401(k)’s are  subject to required minimum distributions (RMD) when you reach age 70.5 years, meaning you need to withdraw a minimum amount each year. Like Roth IRAs, Roth 401k accounts aren’t subject to the RMD.

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.  The table below provides a summary and comparison of the 401(k) plan options and those of a traditional IRA for your reference. It contains 2010 contribution limits, which are lower than the 2012 limits mentioned above.

Roth 401(k) plans are expected to become more popular with employees and also the government who hope to raise short-term tax revenue. I encourage you to subscribe (free) via Email or RSS to get the latest Roth 401(k) updates.


[August 2010] 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.

Details of the Senate small business bill have not yet been released, but a draft copy of the bill was obtained by Dow Jones Newswires. The tax provisions of the bill were negotiated in a bipartisan fashion between Sens. Max Baucus (D., Mont.) and Charles Grassley (R., Iowa), the chairman and ranking Republican respectively on the Senate Finance Committee. The Roth roll-over provision would raise $5.1 billion to help pay for roughly $12 billion in tax incentives aimed at spurring small business growth. The Roth provision is scored as a revenue gainer in the 10-year budget window, because people taking advantage of the conversion will owe taxes on tax-deferred amounts that had been accumulating in their 401(k) plans.

3 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.

  3. Here’s a good example of why taking care of taxes now is a better idea. Here is the scenario:

    * You put $10,000 from your salary into your 401k plan in 2011.
    * Your combined marginal federal and state income tax bracket is currently 35 percent.
    * Your 401k accounts earn 5 percent per year.
    * You’ll retire in 10 years and withdraw the accumulated contribution that you made in 2011. At that time, your combined marginal income tax rate is still 35 percent.

    How much money will you have to spend in 10 years, after paying income taxes, under the traditional 401k vs. the Roth 401k?

    If you contribute to the traditional 401k: Since you aren’t paying income taxes on the $10,000, you can invest the full amount. At 5 percent annual investment returns, your $10,000 will grow to $16,289 (if you’re mathematically inclined, that’s $10,000 times 1.05**10). You’ll pay 35 percent of that amount in taxes ($5,701), leaving an after-tax amount of $10,588 to spend.

    If you contribute to the Roth 401k: You’ll pay 35 percent income taxes today on $10,000 — $3,500 – so that money is gone. You’ll have $6,500 left to invest in a Roth 401k. Your $6,500 will grow to $10,588 (that’s $6,500 times 1.05**10). Since Roth accounts aren’t taxed upon withdrawal, you’ll have all this money to spend.

    This example shows the following:

    * If you’re in the same marginal income tax bracket now and in retirement, there’s no difference in the after-tax amount you have to spend in your retirement between a traditional and Roth 401k.
    * If you’re in a higher tax bracket in retirement compared to now, you’ll have more money to spend in retirement if you contribute to a Roth 401k.
    * If you’re in a lower tax bracket in retirement compared to now, you’ll have more money to spend in retirement if you contribute to a traditional 401k.

    source :

Leave a Reply

Your email address will not be published. Required fields are marked *

Share via
Copy link