Rolling over after-tax 401K contributions


D

D.F. Manno

A relative may be leaving her job soon and will want to roll
over her 401K plan, to which she has made both before-tax
and after-tax contributions. She would like to do so such
that the after-tax contributions do not become taxable upon
withdrawal at retirement.

I did some research for her and found two ways to roll over
the money:

1) do a direct rollover to an institution that will
separately account for the before-tax and after tax money
(she said she has not been able to find one), or

2) roll over the money into a traditional IRA. (Wouldn't the
money then be taxable upon withdrawal?)

She then asked about Roth IRAs. I found a passage in IRS
Pub. 590 that reads as follows:

"If you made nondeductible contributions to any of your
traditional IRAs, you have a cost basis (investment in the
contract) equal to the amount of those contributions. These
nondeductible contributions are not taxed when they are
distributed to you. They are a return of your investment in
your IRA.

"Only the part of the distribution that represents
nondeductible contributions (your cost basis) is tax free.
If nondeductible contributions have been made, distributions
consist partly of nondeductible contributions (basis) and
partly of deductible contributions, earnings, and gains (if
there are any). Until all of your basis has been
distributed, each distribution is partly nontaxable and
partly taxable."

It appears to me that she could take the post-tax
contributions to the plan and roll them over into a
traditional IRA, then convert the traditional IRA to a Roth
IRA, without paying taxes on the money. Is this correct?

Finally, she currently has a 401M plan at work. That's not a
typo, it's a 401M plan. I know nothing about these plans and
a search on the IRS Web site turned up no hits. Does anybody
know anything about rolling over money from such plans?

Thanks in advance for any help.

--
D.F. Manno
(e-mail address removed)
"They that can give up essential liberty to obtain a little
temporary safety deserve neither liberty nor safety."
(Benjamin Franklin)
 
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J

John H. Fisher

D.F. Manno said:
A relative may be leaving her job soon and will want to roll
over her 401K plan, to which she has made both before-tax
and after-tax contributions. She would like to do so such
that the after-tax contributions do not become taxable upon
withdrawal at retirement.

I did some research for her and found two ways to roll over
the money:

1) do a direct rollover to an institution that will
separately account for the before-tax and after tax money
(she said she has not been able to find one), or

2) roll over the money into a traditional IRA. (Wouldn't the
money then be taxable upon withdrawal?)

She then asked about Roth IRAs. I found a passage in IRS
Pub. 590 that reads as follows:

"If you made nondeductible contributions to any of your
traditional IRAs, you have a cost basis (investment in the
contract) equal to the amount of those contributions. These
nondeductible contributions are not taxed when they are
distributed to you. They are a return of your investment in
your IRA.

"Only the part of the distribution that represents
nondeductible contributions (your cost basis) is tax free.
If nondeductible contributions have been made, distributions
consist partly of nondeductible contributions (basis) and
partly of deductible contributions, earnings, and gains (if
there are any). Until all of your basis has been
distributed, each distribution is partly nontaxable and
partly taxable."

It appears to me that she could take the post-tax
contributions to the plan and roll them over into a
traditional IRA, then convert the traditional IRA to a Roth
IRA, without paying taxes on the money. Is this correct?

Finally, she currently has a 401M plan at work. That's not a
typo, it's a 401M plan. I know nothing about these plans and
a search on the IRS Web site turned up no hits. Does anybody
know anything about rolling over money from such plans?
Form 8606 is used for such distributions FROM AN IRA. Only
a percentage, as it relates to the whole, is treated as a
non-taxable distribution. Unless a total distribution is
made and the entire amount rolled over into a Roth, I can
see no way around the rule.

Regarding your relative's retirement plan, most
distributions can be rolled over except for the nontaxable
part of a distribution, such as your afterâ€"tax
contributions to a retirement plan (in certain situations
after tax contributions can be rolled over), Amounts that
cannot be rolled over would be refunded as a non-taxable
distribution.

As I understand it, the 401k and 401m plans are pretty much
synonymous but I'm no expert in this field!!=:) You'll
find a description in the code at the following URL:

http://www4.law.cornell.edu/uscode/26/401.html

"Jack" - John H. Fisher - (e-mail address removed)
Philadelphia, Pa - Atlantic City, NJ - West Wildwood, NJ
My Newsgroups & Boards at: http://members.aol.com/TaxService/index.html

Where Ignorance is bliss, 'tis folly to be wise!=:)
 
A

A. G. Kalman

Form 8606 is used for such distributions FROM AN IRA. Only
a percentage, as it relates to the whole, is treated as a
non-taxable distribution. Unless a total distribution is
made and the entire amount rolled over into a Roth, I can
see no way around the rule.

Regarding your relative's retirement plan, most
distributions can be rolled over except for the nontaxable
part of a distribution, such as your afterâ€"tax
contributions to a retirement plan (in certain situations
after tax contributions can be rolled over), Amounts that
cannot be rolled over would be refunded as a non-taxable
distribution.

As I understand it, the 401k and 401m plans are pretty much
synonymous but I'm no expert in this field!!=:) You'll
find a description in the code at the following URL:

http://www4.law.cornell.edu/uscode/26/401.html

"Jack" - John H. Fisher - (e-mail address removed)
Philadelphia, Pa - Atlantic City, NJ - West Wildwood, NJ
My Newsgroups & Boards at: http://members.aol.com/TaxService/index.html

Where Ignorance is bliss, 'tis folly to be wise!=:)
The after-tax contributions to the qualified retirement plan can
be directly transfered to a traditional IRA with the pre-tax
contributions and earnings (see 2002 tax changes). The taxpayer
would need to file an 8606 for the year of transfer to inform the
IRS that the IRA has a cost basis. This amount should be
reflected on the 1099-R from the employer that reflects the
after-tax contribution as a return of principal with the taxable
amount as zero.
 
P

Phil Marti

"D.F. Manno"
A relative may be leaving her job soon and will want to roll
over her 401K plan, to which she has made both before-tax
and after-tax contributions. She would like to do so such
that the after-tax contributions do not become taxable upon
withdrawal at retirement.

I did some research for her and found two ways to roll over
the money:

1) do a direct rollover to an institution that will
separately account for the before-tax and after tax money
(she said she has not been able to find one), or

2) roll over the money into a traditional IRA. (Wouldn't the
money then be taxable upon withdrawal?)
The winner is number 2. The law now allows the rollover of after-tax money
from a 401(k) to a traditional IRA. This creates a previously-taxed "basis" in
the IRA, just as nondeductable contributions do. The accounting, both on
rollover and distribution, is done in Part I of Form 8606. See that form's
instructions.
She then asked about Roth IRAs.
You cannot roll directly from a 401(k) to a Roth; it must go through a
traditional IRA. Conversion to Roth is then treated as a distribution from the
traditional. See Pub 590 and Form 8606.

Phil Marti
Topeka, KS
 
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H

HW \Skip\ Weldon

A. G. Kalman said:
The after-tax contributions to the qualified retirement plan can
be directly transfered to a traditional IRA with the pre-tax
contributions and earnings (see 2002 tax changes).
As usual Mr. Kalman is on the cutting edge of tax change.

As for whether the investor is best served by rolling over
the after-tax contributions and filing the 8606, remember
that while growing tax-deferred, the gains will ultimately
be subject to ordinary taxes and at death, there is no
step-up. He/she may also be subject to other IRA provisions
such as the Premature Distribution penalty and Minimum
Distributions at age 70.5.

Contrast that with placing those same dollars into a regular
investment account with little/no tax consequences
currently. There, gains are subject to capital gains rates
and there is a step-up. One possibility would be to use an
index fund such as Vanguard's 500 Index or their Total Stock
Market Index. Incidentally, you can handle both after-tax
investments and the IRA rollover at Vanguard. Or Fidelity.
or T. Rowe Price, etc. Call them for more.

-HW "Skip" Weldon
Columbia, SC
 

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