After Tax in 401K to TIRA and Roth IRA | Ed Slott and Company, LLC

After Tax in 401K to TIRA and Roth IRA

I am over 55. My 401k contributions and earnings are post 2005. I have left the company and am moving the money. I received one check "for the benefit of" that has been rolled into a TIRA within 60 days. I received another check to me for the balance as "after tax money contributed to the account." There was no 20% witholding. I am now employed by another company and considered a highly compensated employee (over standard Roth contribution levels). I do have an established Roth IRA however that is over 5 years old. Q: Can I take the monies to me from the after tax and put in a Roth IRA without tax consequences?

Probably, but due to IRS Notices and lack of clarity, the outcome cannot be stated with complete certainty. Nonetheless, the downside of proceeding with the Roth rollover is not serious and I would proceed to do that. The IRS in 2009 issued Notice 2009-68 indicating the intent to require pro rating of these rollovers as if the entire amount had first been rolled to a TIRA. However, there has been no follow up and no change in the way the plans are issuing 1099R forms. Plans have continued to issue a G coded 1099R for the direct rollover and a separate 1099R for the post tax amount. The only way this will change would be if the IRS decides to provide changes in guidance for issuing these forms. If this does not happen by November, it will be too late for the 2012 reporting season and you would be home free with the tax free Roth conversion, as have those who have done this for 2009-2011. There is almost no chance that there would be any ruling that would be retroactive. You just need to be sure to complete the rollover to your Roth IRA within 60 days of receipt. Tell the Roth custodian that you are rolling over a qualified rollover contribution.

Sorry, one more if my yearly income is higher than the phase out of "normal" Roth contributions, I can still take this distribution from the 401K and rollover to a Roth?

Yes, there is no income limitation for Roth conversions OR for a qualified rollover contribution to a Roth IRA. The latter is the official term for a conversion of employer plan funds to a Roth IRA, which is what you did. All income limitations to do this ended in 2009.

I did full rollover of all pre- and after-tax amounts from traditional 401k to traditional IRA in 2004 on separation of service. Can I now rollover the after-tax contributions only of ~$42,000 from that traditional IRA to Roth IRA tax-free--leaving earnings on those after-tax contributions in that traditional IRA--per Notice 2014-54 and IRS Guidance "Transition rules" providing:  "For distributions prior to September 18, 2014, taxpayers can also use the new rule, except for distributions from designated Roth accounts."

  • You cannot separate the after tax contributions you rolled into your IRA from the pre tax portion unless you are able to roll the pre tax portion to your current workplace plan if you are participating in such a plan. Otherwise, all distributions or conversions done from your IRA will be prorated on Form 8606 between the basis (after tax amounts) and the pre tax balance of all your non Roth IRAs. 
  • If you have not already reported your after tax basis on Form 8606, current IRS guidance indicates that you should do so the next time you would otherwise file Form 8606, such as when you take a distribution.
  • The quote regarding "distributions prior to 9/18/2014" only refers to split rollovers done according to the Notice where taxpayers jumped the gun and with the custodian's cooperation did such a split rollover prior to that date. You never did a split rollover. It does not provide a chance to redo a rollover already done in a different manner. Your after tax amount has already been in your TIRA for almost two decades. Again, the only way to accomplish a conversion of only your IRA basis is to roll the entire pre tax balance into an accepting employer plan. You can then convert the IRA basis left behind in the TIRA to a Roth IRA tax free.

Let me see if I understand. So, if I had done full distribution in 2004 of: 1) all pre-tax amounts in 401k to traditional IRA and 2) all after-tax contributions only in 401k to Roth IRA--even though it was illegal then and pro-rata rule applied in 2004--it would be tax-free as of 9/18/2014 per Notice 2014-54. But because I followed the law as it was in 2004 and did not attempt tax-free split-distribution in 2004--when it was illegal--I cannot do tax-free split-distribution in 2022. That literally makes no sense to me.It seems to me that the acid test for tax-free rollover to Roth IRA of after-tax contributions to 401k is not timing of rollover but rather that those contributions were sourced 100% from rollover of 401k after-tax contributions--not individual contributions by me to Roth IRA of which I have have never made any.

As you correctly indicated, it was not even possible to roll a 401k distribution directly to your Roth IRA in 2004. That was first allowed in 2008, although only for those who MAGI was under 100k and were not filing married/separate. About that time the IRS issued Notice 2009-68 that indicated distributions from qualified plans that included after tax dollars had to be pro rated to the various destinations. Some custodians interpreted 2009-68 that way and some did not, so there was a period of confusion from 2010 until the IRS switched course with Notice 2014-54. In that Notice they indicated that they would not dispute split rollovers done prior to Sept, 2014, but of course those rollovers had to be otherwise legal. There are no doubt many thousands of 401k participants who did not take the gamble prior to Notice 2014-54. But it was not possible prior to 2008 to roll ANY 401k money directly to a Roth IRA, so this is all a moot point for you. And there was no way back in 2004 to predict that the PPA passed in 2006 would eventually allow direct Roth IRA rollovers from qualified plans. In a prior post, I indicated a possibility for you do still move the after tax money to your Roth IRA if you can roll the pre tax money to an accepting employer plan. Barring that, your TIRA holds 42,000 of basis which you need to report on Form 8606 at some point to avoid 100% taxation of all distributions, which would amount to double taxation of that 42,000 over many years.

Thanks for that information. It's by far the only detailed analysis I've gotten on this issue. The rest of the "experts" just keep vomiting back pro-rata rule without distinction between after-tax contributions sourced from traditional 401k rollover or from individual contributions.I still take the reasonable position that I can do tax-free rollover in 2022 per IRS guidance "Rollovers of After-Tax Contributions in Retirement Plans" ( because: 1) I would have done split distribution of pre/after tax 401k contributions including to Roth IRA if it was legal in 2004, 2) I did full distribution of pre/after tax 401k contributions to traditional IRA, i.e., I did not leave any pre-tax amounts in 401k, 3) I am not doing rollover of pre-tax earnings on after-tax 401k contributions; those stay in the traditional IRA, 4) I am not doing rollover from designated Roth account--but traditional 401k, 5) taxpayers can use new rule for distributions prior to 9/18/2014 and 6) I have not made any non-deductible individual contributions to the traditional IRA to muddy it up.It makes no sense to grant amnesty to those who violated law before 2014 and prohibit me from doing same just because I parked after-tax 401k contributions in traditional IRA before IRS weighed in on issue. What was I supposed to do: put those contributions in my bank account and trigger huge tax bill?    

  • While that may seem to be a reasonable position, that's simply not permitted.  As stated in the first paragraph of the notice, Notice 2014-54 applies only to distributions from plans qualified under section 401(a).  An IRA is not such a plan.  Once the after-tax money has been rolled into an IRA, IRA rules apply instead.  How the after-tax money came to be in the IRA is irrelevant.  The calculations on Form 8606 will result in a proportional amount of the Roth conversion being taxed.
  • The splitting of pre-tax and after-tax money to separate accounts that the IRS is saying will not be disputed involves only rollovers that legally went to a Roth IRA; only the allocation of the pre-tax and after-tax portions was potentially disputable.  Only in 2008 did it become permissible to roll over to a Roth IRA from a traditional account in qualified plan.  Such a rollover was not permitted in 2004.
  • The only way to accomplish what you desire is to roll the pre-tax money into a qualified plan (which can be accomplished because tax code permits only pre-tax money to be rolled from an IRA into a qualified plan), leaving in your traditional IRAs just the after-tax money which can then be converted to a Roth IRA tax free.

That's exactly what I'm doing. I'm applying Notice 2014-54 retroactively to full distribution rollover from traditional 401k as per IRS guidance, Transition rules--"For distributions prior to September 18, 2014, taxpayers can also use the new rule" because if I could've done it in 2004, I can certainly do it in 2022. Nothing in Notice 2014-54 or guidance I cited limits it to actual distributions made prior to 2014 intended to be tax-free in violation of pro-rata rule. The government has gotten 18-year interest free loan courtesy of one of the ~40% of taxpayers in US. I'm not happy about that.

There are two reasons you cannot apply this rule to your distribution, as we have been trying to explain. FIrst, it was not legal to roll any 401k distribution into a Roth IRA at the time and second, you already rolled the entire distribution to a TIRA, adding basis to your TIRA. The IRS statement that the rule could be applied retroactively effectively is limited to those that had already placed their basis in a Roth IRA, and the IRS is stating that they will not challenge those rollovers that had already been made. You cannot do this now, your money is already in a TIRA and has been for many years. We have explained this 3 or 4 times now, but of course you are free to proceed however you wish.


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