Agenda. Designated Roth Accounts From Deferral to Distribution Wednesday, May 1, 2013

Transcription

1 Designated Roth Accounts From Deferral to Distribution Wednesday, May 1, 2013 William Grossman, ERPA, QPA, APR Director of Education & Communications McKay Hochman Co., Inc. Agenda Background Benefits and Attributes of a Roth Deferral Qualified Distributions The 5-Year Clock Rollovers: Direct; Participant Distributions Form 1099-R Roth Conversions Qualified Rollover Contributions Differences Between Roth IRA and Designated Roth 2 1

2 BACKGROUND Background Designated Roth created by the Economic Growth and Tax Relief and Reconciliation Act of 2001 (EGTRRA) for 2006 tax year Section 617(a) of EGTRRA IRC 402A: Designated Roth Tax Code Section Pension Protection Act of 2006 made EGTRRA s retirement provisions permanent 4 2

3 Background Applies to deferrals under a 401(k) plan or a 403(b) arrangement and as of 2011 a governmental 457(b) Rules and tax treatment are the same Regulations on designated Roth accounts issued in two phases Final regulations for offering designated Roth issued Dec. 29, 2005, Effective Jan. 1, 2006 Final regulations on designated Roth distributions, rollovers and reporting issued April 27, 2007, Effective Jan. 1, 2007 Notice In-plan Roth Rollover Guidance 5 Effective Date Designated Roth first available for Plan Years that begin on or after January 1, was the first year that a designated Roth account became 5-years old: if started in 2006 IRS issued sample language for the addition of the Roth provision Off calendar plan may add to plan, but for participant s tax year beginning January 1 6 3

4 Adding Designated Roth to a Plan Roth is an optional provision Discretionary amendment Must be in plan document to use If adding the Roth must be done by last day of the first year in which it is used (per IRS Notice and Rev. Proc, and Rev. Proc , Section 5.05) Example: Plan year ending June 30, 2012, Roth Deferrals permitted Jan. 1, 2012, provided plan amendment to add Roth is adopted by June 30, Note: IRS issued sample Roth amendment Notice Adding Roth to a Safe Harbor 401(k) Amendment Timing Can add Designated Roth to a Safe Harbor 401(k) plan after the plan year has started, per IRS Announcement Can add in plan Roth conversion to a safe harbor 401(k) after the plan year has started, per IRS Notice Neither of these will spoil the SH, even though the safe harbor notice was given out prior to the beginning of the plan year 8 4

5 Roth Treated as Elective Deferrals Roth deferrals are treated as elective deferrals under the terms of the plan and document Contribution limits ADP testing Matching formulas Vesting, 100% vested Nondiscrimination Coverage Top heavy QJSA, $5,000 consent and cash out rule combined 415 annual additions RMDs The major difference being the tax treatment 9 Operational Issues Roth only plans not permitted by the regulations. The participant must designate the contribution as a Roth prior to deposit to the plan Roth needs to be explained at enrollment meetings and on enrollment forms Roth must be included in Summary Plan Description Automatic Enrollment plans may default deferrals as Roth. Check your plan document. Prior to the first dollar being deferred, participants will have the right to opt out or change their deferral 10 5

6 BENEFITS AND ATTRIBUTES OF ROTH DEFERRALS Three Required Conditions for Roth 1. Deferral irrevocably designated at the time of election as a Roth deferral (unlike IRA) 2. Deferral treated as includible in employee s income (not pre-tax) 3. Designated Roth deferrals maintained in a separate account from pre-tax deferrals Contributions and distributions must be record kept as separate Roth source Gains, losses, expenses, etc. separately allocated on a reasonable and consistent basis No forfeitures may be allocated to a Roth 12 6

7 Benefits and Attributes Roth Deferrals - Tax Free Earnings If deferrals left in plan long enough the earnings will be distributed tax FREE!!!! W-2 Reporting Roth included in taxable income and as deferral Pretax deferrals excluded from gross income and included as deferrals Box 12 Codes Roth = Code AA, plus amount of Roth deferrals Pretax = Code D, plus amount of pretax deferrals 13 Benefits and Attributes Roth Deferrals - Deferral Limit Roths are part of the annual deferral limit 2013 = $17,500, Catch-up = $5,500 Compared to 2013 IRA Roth Limit: $5,500/$1,000 Examples 1. Participant = Mack, age 51 Defers = $17,500 as Roth and $5,500 as Catch-up (also as a Roth) 2. Participant = Jen, age 55 Maximum $17,500 + $5,500 = $23,000 Defers = $11,500 Roth, $11,500 Pre-tax (Salary deferral agreement completed to place 50% in Roth and 50% in pre-tax deferrals) 14 7

8 Benefits & Attributes Roth Deferrals Roth IRA & Designated Roth Contributions to an IRA (even a Roth IRA) will not affect the Roth 401(k) limit Example In 2013, Matt (age 35) contributes $17,500 in his Roth 401(k) plan and $5,500 in his Roth IRA Roth IRA has income limitation, See next slide Note: the Roth IRA has been around since Roth IRA Annual Contribution Rules Eligibility rules Earned income from personal services Contributions may be made after age 70½ Eligibility for Roth IRA limited by AGI: 2013 Full Contribution Partial Contribution No Contribution Single or head of household $112,000 or less $112,001 to $126,999 $127,000 or more Married filing jointly $178,000 or less $178,001 to $187,999 $188,000 or more Married, filing separately $9,999 or less N/A $10,000 or more 8

9 Benefits & Attributes Roth Deferrals 401(k) Advantages to Roth IRA Eligible Employees may find the fee structure in a 401(k) plan is better than in a Roth IRA Designated Roth may receive match No income limitations for eligibility to contribute to designated Roth (Roth IRA has income limitations) Therefore, higher income employees will be able to contribute to Roth 401(k) 17 QUALIFIED DISTRIBUTIONS 18 9

10 Qualified Distributions Distribution is qualified if: The Roth has satisfied the 5 year requirement AND Distributable event is: After attainment of age 59½, or After the death of the participant, or If the participant is disabled Any other distribution is treated as nonqualified 19 Qualified Distributions Example 1 James first made a Roth deferral in 2006 Leaves her company in 2013 at age 50 Wants a distribution This is a non-qualified distribution Although the funds have been in the plan for more than 5 years, the age 59½ requirement was not met 20 10

11 Qualified Distributions Example 2 Sarah first made a Roth deferral in 2010 Leaves her company in 2013 at age 65 Wants a distribution This is a non-qualified distribution Although Sarah has satisfied the age 59½ requirement, the 5 year period did not elapse 21 Qualified Distributions Example 3 David first made a Roth deferral in 2006 Leaves his company in 2013 due to disability David is age 45 Takes a distribution This is a qualified distribution Although David has not satisfied the age 59½ requirement, the distribution is qualified because: Disability that meets Section 72(m)(7), and the 5 year period did elapse 22 11

12 Qualified Distributions Example 4 Robin first made a Roth deferral in 2011 Dies in 2013 at age 62 Beneficiary wants a distribution This is a non-qualified distribution Although Robin has satisfied the age 59½ requirement and the distribution is because of death, the 5 year period did not elapse 23 Qualified Distributions Beneficiary or Alternate Payee The age, death or disability of the participant is used to determine whether a distribution is qualified in the case of an alternate payee or a beneficiary Example: Participant dies in 2009 and the surviving spouse leaves the funds in the plan until 2014 the five year rule will have been satisfied and the distribution will be tax free Exception: If the alternate payee or surviving spouse rolls money to their own Roth account, then you base the qualified status on their information 24 12

13 Distributions That Will Never be Qualified Certain Distributions will never be considered qualified (tax-free): Excess deferrals Excess contribution Deemed Loan defaults Life Insurance Protection ESOP Dividends 25 THE FIVE-YEAR CLOCK 13

14 The 5-Year Clock Year One 5 years measured on a calendar year basis If first contribution is made in 2013, it does not matter if the deferrals start in January or December 2013 is year number 1!!!! 27 The 5-Year Clock Annual Contributions Not Required The 5 year clock does not require that a contribution be made every year. It merely starts from the time the first contribution is made I contribute in 2006 and 2007 I do not contribute in 2008, 2009, 2010 I have still satisfied the 5-year requirement as of January 1, 2011 (2006, 2007, 2008, 2009, 2010) 28 14

15 The 5-Year Clock Per Plan Rule Participants may have more than one 5-year clock Every new plan that I contribute Roth deferrals to has a separate 5 year clock UNLESS I roll over my previous funds directly 29 The 5-Year Clock Example 1 TJ deferred to a Roth with Employer #1 in 2009 and 2010 Left Employer #1 in 2013 and left his money in Employer #1 s plan. 5 Year clock is still running Joins Employer #2 in 2013 and defers (Roth) A new 5 year clock starts in that plan 30 15

16 The 5-Year Clock Example 2 BJ deferred to a Roth with Employer #1 in 2009 and 2010 Left Employer #1 in 2013 and directly rolled his money into Employer #2 s plan. Joins Employer #2 in 2013 and defers (Roth) The 5 year clock in Employer # 2 s plan is considered to have started in 2009 Employer 1 is required to send a report of the first year of the Roth contributions and the amount to employer 2 31 The 5-Year Clock Rollover to Roth IRA Rules are different if I move funds from a 401(k) plan to a Roth IRA The Roth IRA has a separate tracking period and the years in the Roth 401(k) will not apply to the Roth IRA 32 16

17 The 5-Year Clock Rollover to Roth IRA Example 1 Michelle leaves employment in She had deferred into her Roth 401(k) for 2010 and 2013 She rolls her money into her first ever NEW Roth IRA in 2013 The 5 year clock starts over again in 2013!!! 33 The 5-Year Clock Rollover to Roth IRA Example 2 Raquel leaves employment in She had deferred into her Roth 401(k) for 2010 and 2012 She rolls her money to a Roth IRA in 2013 She had opened the Roth IRA in 1999 The 5-year clock on the amount rolled into the Roth IRA has been satisfied (as it picks up the Roth IRA clock which started in 1999)!! 34 17

18 Rollover to Roth IRA After 401(k) Roth Reaches Qualified Distribution Status If the plan Roth dollars are qualified, then they are considered basis when entering the IRA. If qualified distribution rolled into a new Roth IRA, Earnings made by the new Roth IRA (after the qualified distribution is rolled in), must wait 5- years to be tax free. 35 The 5-Year Clock USERRA Affected Participants If a returning military veteran makes up deferrals, the year the veteran selects to make up is the first year of the Roth contribution If an election is not made by the participant, then you assume it is made in the first possible year for the makeup of a Roth deferral under the terms of the plan Polly, a returning veteran in 2013, makes up deferrals for the 2010, 2011 and 2012 years. The Roth deferral would be attributable to the 2010 year, unless Polly chose 2011 or

19 DIRECT ROLLOVERS PARTICIPANT ROLLOVERS Direct Rollovers From 401(k) or 403(b) Direct rollover is the only way to move designated Roth contributions with the earnings DIRECT ROLLOVER - PORTABILITY CHART FROM: Roth 401(k) Roth 403(b) Gov t. Roth 457(b) TO: Roth 401(k) Roth 403(b) G. Roth 457(b) Roth IRA Y Y Y Y Y Y Y Y Y Y Y Y Roth IRA N N N Y 38 19

20 Direct Rollovers - Accepting Plan Must Permit Designated Roth A rollover of designated Roth to a qualified plan can only be to a plan that allows Roth deferrals You cannot accept Roth rollovers into a Profit Sharing, 401(k) or Money Purchase plan without a designated Roth deferral feature 39 Direct Rollovers Reporting First Year of Clock How does the receiving plan in a rollover situation know how many years on the 5 year clock have expired??? It is the obligation of the distributing plan to report within 30 days of the rollover, the amount of basis and the first year of the 5 year clock 40 20

21 Direct Rollovers Reporting Requirements Recipient plan provides a report to the IRS regarding the acceptance of a Roth rollover It must include: Name and SS # Amount rolled over Year rollover is made Any other information required to determine the validity of the rollover Pending issuance of the IRS form for this reporting, still waiting 41 Participant Distributions Participant Rollover If a participant takes a distribution payable to himself and later (within 60 days) wants to make a participant rollover to Roth 401(k): only the pre-tax amount (earnings not yet qualified) may be rolled to another qualified plan Note: Employee has the right to receive the same rollover information (status of 5 year clock) within 30 days after it is requested 42 21

22 Participant Distributions Participant Rollover If a participant takes a distribution payable to himself and later (within 60 days) wants to rollover to a Roth IRA: then the entire distribution may be rolled to the Roth IRA Use Form 8606 to track 43 DISTRIBUTIONS 22

23 Participant Distributions General Rule Roth contributions are deferrals and are subject to the same withdrawal restrictions for active employees Age 59½ Financial Hardship If not taking the entire Roth account out, and it is not a qualified distribution, the distribution must be pro-rated between the original contributions and earnings 45 10% Penalty Roth Amount When distributions of Roth amounts are made what is subject to the 10% penalty if under age 59½? Only the amounts that will be taxed i.e. earnings not Roth deferrals 46 23

24 Pro-Rata Distributions, Not Ordering The Roth 401(k) and 403(b) will not have the same distribution ordering rules as the Roth IRA Roth IRA you can take after-tax contributions out first and leave the earnings Roth plans as stated earlier, you must withdraw pro-rata (if not taking the entire amount) 47 Participant Distributions Separate Plan for Cash-out Rules Roth amounts are considered a separate plan for application of the involuntary cashout and automatic rollover rules, IRS created a separate model 402(f) Notice For example if I have $800 in a Roth and $900 in pre-tax, those can be cashed out (even though the total is more than $1,000) If there is less then $200 in Roth, and $1,000 in other sources. The Roth is not subject to the eligible rollover distribution rules, nor 20 percent withholding whereas the other sources are 48 24

25 Hardship Distributions If a participant has both pre-tax and Roth deferrals, the hardship may be calculated using aggregate of both, but the hardship distribution may be limited to pre-tax deferrals Why would a plan want to limit the access to the Roth deferrals for hardship purposes? See the next slides 49 Hardship Distributions Designated Roth Issue 1. Basic concept about all hardship distributions of elective deferrals cannot take earnings out (at least post-1988) 2. Basic concept about Roth distributions you must take a pro-rata distribution of earnings and contribution How do these conflicting concepts get resolved?? 50 25

26 Hardship Distributions Designated Roth Issue 1. You are limited to taking hardships from the Roth deferrals (you cannot tap into the earnings) 2. But for tax purposes, you treat the hardship as being pro-rata earnings/contribution See next slide for an example Question to ponder Who thinks of these things? 51 Hardship Distributions Designated Roth Issue Joe has a Roth account of $10,000 ($7,000 in contributions and $3,000 in earnings) Hardship is limited to $7,000 If he takes all $7,000, he is taxed as if $4,900 (70%) is after-tax deferral and $2,100 (30%) is earnings 52 26

27 Hardship Distributions Designated Roth Issue If Joe comes back for a second hardship: the hardship calculation is treated as if all $7,000 came from the original deferrals so that is the amount that the next hardship is offset by The participant may be confused because he was taxed as if only $4,900 were Roth deferrals so why is $7,000 being considered? Plus, Joe lost the ability for $2,100 in earnings to ever achieve tax-free status This is why plans may want to limit hardships to pre-tax 53 RMDs for Roth 401(k) Not Roth IRA Difference in treatment for the Roth IRA and the Roth 401(k) when it comes to RMDs Roth IRA not subject to RMD at 70½ Designated Roth is subject to RMD rules due to Code Section 401(a)(9)! RMD may be taken from just non-roth account until designated Roth is a qualified distribution amount, though Roth must be included in the calculation of the RMD Participant can opt to have RMD amount be taken just from just the designated Roth account. You can still rollover plan amounts to Roth IRA prior to RMD beginning date 54 27

28 RMDs Is there a way to avoid Designated Roth RMD Payments? YES Roll the designated Roth to a Roth IRA The RMD for the year must be taken at the time of the rollover, but thereafter, as part of Roth IRA, there are no RMDs Beware that Roth IRA 5-year clock is satisfied when making rollover from designated Roth 55 Participant Loan Roth Issues For loans that are partly from designated Roth accounts, the quarterly amortized repayments must partly repay the designated Roth account and may not fully repay either the Roth or non- Roth alone Loan defaults will never be a qualified tax-free Roth distribution, per the final Roth regs. Therefore, for ease of administration and employee communications, some document sponsors are not offering the Roth as a source for loans 56 28

29 Return of Excess Deferrals Excess deferrals returned by April 15 will have no tax impact on participant After all, they are post tax $ But earnings will be taxable Even if participant has attained age 59½ and has the 5 year requirement met Makes sense since this money never should have had Roth treatment Excess deferrals returned after April 15 th Taxed again upon distribution Not eligible for rollover 57 ADP Test Refund Document can be written to give the participants the choice of which dollars (pre-tax or Roth) are returned This assumes both types of deferrals are made in the testing year Document can be written to dictate which dollars are returned first If Roth deferrals being returned, earnings must be included. If excess contribution is $3000 of Roth, of the $3000 Roth returned, $250 is earnings. If returned late, 10% employer penalty on the $3,

30 Form 1099-R Designated Roth and Form 1099-R A separate Form 1099-R must be issued for designated Roth account distributions. Code B is for all Roth distributions. (Qualified distributions and distributions which have not yet become qualified). Box 11 is for reporting the first year of the designated Roth account Box 10 is for reporting the distribution of an Inplan Roth Rollover (IRR) that has been distributed before 5 years after the conversion 60 30

31 Designated ROTH Distribution Severance and Partial Distribution Participant has $10,000 balance $9,400 of designated Roth contributions $600 of earnings Participant withdraws $5,000 $4,700 is Roth; $300 earnings Form 1099-R Box 1 $5,000 Box 2a $300 Box 4 $60 (20% mandatory withholding) Box 5 $4,700 (Roth basis) Box 7 Code B Box 11 First year of 5-year clock. 61 Designated ROTH Distribution Severance & Direct Rollover to Roth IRA Participant has $10,000 balance $9,400 of designated Roth contributions $600 of earnings Participant directly rolls $5,000 to Roth IRA $4,700 is Roth; $300 earnings Form 1099-R Box 1 $5,000 Box 2a $0 Box 4 $0 Box 5 $4,700 (Roth basis) Box 7 Code H Box 11 First year of 5-year clock

32 QP Non-ROTH Distribution in 2012; Severance & Direct Rollover to Roth IRA (Conversion) Participant has $120,000 balance $108,000 of ER, EE non-roth contributions. Plus earnings $12,000 of after-tax Participant directly rolls $120,000 to Roth IRA Form 1099-R Box 1 $120,000 Box 2a $108,000 Box 4 $0 Box 5 $12,000 (after-tax basis) Box 7 Code G 63 QP Non-ROTH DISTRIBUTION in 2012 Direct Rollover to Traditional IRA JP Participant has $200,000 balance $188,000 of ER, EE non-roth deferrals + earnings $12,000 of after-tax JP Participant directly rolls $200,000 to Traditional IRA Form 1099-R Box 1 $200,000 Box 2a $0 Box 4 $0 Box 5 $12,000 (after-tax basis) Box 7 Code G Form 5498, Traditional IRA Box 2: $188,000 No taxation on entire amount 64 32

33 QP In-plan ROTH Rollover in 2012 In-plan Roth Conversion Participant M has $75,000 balance and is over age 59½ $75,000 of ER, EE non-roth 401(k) contributions. Plus earnings Participant M makes an in-plan Roth Rollover to a designated Roth account of all $75,000 Form 1099-R Box 1 $75,000 Box 2a $75,000 Box 4 $0 Box 7 Code G 2012 Form 8606, Participant Files with Form 1040 Part III: Report in-plan Roth Rollover 65 QP Designated ROTH Direct Rollover to Roth IRA 2012 JP Participant has $50,000 Roth balance $50,000 Roth contributions. $4,000 of which is earnings JP Participant directly rolls $50,000 to ROTH IRA Form 1099-R Box 1 $50,000 Box 2a $0 Box 4 $0 Box 5 $46,000 (after-tax basis) Box 7 Code H 1 st year of Roth 2008 Form 5498, Roth IRA Box 2: $50,000 No taxation on $4,

34 ROTH CONVERSIONS Small Business Jobs Act of 2010, and IRS Notice Updated by American Taxpayer Relief Act of 2012 Conversion of Pre-Tax to Roth From 2006 until September 27, 2010, Pre-tax 401(k) balances were not allowed to be converted to a 401(k) Roth account. Small Business Jobs Act of 2010 created in-plan Roth Rollover conversion to designated Roth American Taxpayer Relief Act of 2012 created inplan Roth Transfer as of

35 Conversion Only Within Plans That Have a Designated Roth Provision Conversion can only be made in a plan that has a designated Roth account provision 401(k) and 403(b) and, as of 2011, 457(b) governmental plans Plan may not have designated Roth provision only for conversions Not available for Profit sharing, money purchase or other plans that do not have designated Roth account provision 69 Effective Date, Available for Law enacted September 27, 2010, conversion provision effective immediately Available for: 401(k),403(b) or governmental 457(b) participants or surviving spouses Not available to non-spouse beneficiaries, but: non-spouse beneficiaries can convert to a Roth IRA 70 35

36 Within Plan Conversion to Designated Roth Requires a Distributable Event As with conversion from a QP to a Roth IRA, between 2010 and 2012, a distributable event was required to make a within plan conversion to a designated Roth For 2010 conversions only, Tax may be paid in 2010, or Half amount taxable in 2011 and half in 2012 Under age 59½, 10% penalty waived Any distributable event that is eligible for rollover is valid Withdrawal restrictions apply In-service not available until after age 59½ for: elective deferrals, safe harbor 401(k) contributions QNECs, QMACs 71 Within Plan Conversion to Designated Roth Required a Distributable Event In-service for employer NEC or match 2-year rule (Contribution must be in plan for 2 years) 5-year of participation rule New plan provision to limit an in-service withdrawal for only Roth conversions This was in the joint committee report, and IRS Notice In-service of rollovers contributed into the plan 72 36

37 In-plan Roth Rollovers Not Treated as a Distribution for the Following A plan loan transferred to the designated Roth account (without changing its repayment schedule) is not treated as a new loan; Spousal consent is not required in connection with an election to make an in-plan Roth rollover; The amount rolled over is taken into consideration for determining whether a participant s accrued benefit exceeds $5,000; Optional forms of benefit may not be eliminated. A participant who had a distribution right prior to the rollover cannot have that right eliminated after electing an in-plan Roth rollover. (Q/A-3) In-plan Roth Transfers: No Distributable Event Required As of January 1, 2013, a distributable event is not required to make an in-plan Roth Conversion via an in-plan Roth transfer, Section 902 of American Taxpayer Relief Act of 2012, signed into law on January 2, This adds a new transfer option in addition to the in-plan Roth rollover option from the Small Business Jobs Act of

38 2013 In-plan Roth Transfers: No Distributable Event Required As of the time this was written, we are awaiting IRS guidance on this new law. However, the following is known: The plan is required to have Roth provisions before anyone can make an in-plan Roth transfer, section 902 of ATRA Separate sourcing of each conversion is a needed for reporting and tracking of the 5-year conversion tracking of recapture tax From the Form 1099-R instructions for reporting distributions of in-plan conversions before 5 years have elapsed In-plan Roth Transfers: No Distributable Event Required Regarding the in-plan transfer conversion, section 902 of ATRA of 2012, provides the following for any plan that offers a qualified Roth contribution program: the plan may allow an individual to elect to have the plan transfer any amount not otherwise distributable under the plan to a designated Roth account maintained for the benefit of the individual 76 38

39 2013 In-plan Roth Transfers: No Distributable Event Required For example: Elective deferrals prior to age 59½ Safe harbor 401(k) contributions prior to 59½ QNECs, QMACs prior to age 59½ Money purchase plan accounts that were transferred into a 401(k) plan Need IRS guidance but believe J&S will carry over to Roth, and if so, these funds should be separately sourced In-plan Roth Transfers: No Distributable Event Required In-plan transfer conversion amendment We await IRS guidance, however, under the discretionary amendment rules, inplan transfers may be permitted by the plan sponsor, provided a discretionary amendment adding this option is made by plan year end

40 Tax Consequences, Form 1099-R Conversions and transfers are taxable events and individual making conversion must have resources to pay the taxes due Form 1099-R necessary to report taxability of transaction Box 1 and 2a: amount of rollover/transfer Box 7: Direct rollover code G NOTE: Awaiting guidance on in-plan transfer box 7 code, but it is a taxable event and will require a Form 1099-R 79 Plan Participants Form 8606 Reporting The Form 8606 information is a direct quote from the IRS website information: Plan participants who make an in-plan Roth rollover must: File Form 8606, Nondeductible IRAs, with their tax return Complete Form 8606, Part III, to report their in-plan Roth rollover Complete certain lines of Form 8606, Part IV, if they receive a distribution in that tax year of any amount of their in-plan Roth rollover "Plan participants who make an in-plan Roth rollover must: Complete Form 8606, Part II, to report any amount converted from a non-roth IRA to a Roth IRA in that tax year File and complete a separate Form 8606, Part III, if they also rolled over amounts from a qualified retirement plan to a Roth IRA in that tax year" 80 40

41 Tax Consequences Recapture Tax For those converting under age 59½, the 10% penalty that was waived will be applied if conversion withdrawn before 5 years Penalty will not apply if distribution was due to severance from service in year age 55 attained or later 81 Measuring Five-taxable-year Recapture Period 5-taxable-year period starts with the first day of participant s tax year in which in-plan Roth conversion made, usually Jan 1. ends on last day of individual s 5th taxable year after conversion. Amounts may be rolled to another Roth without penalty. If withdrawn from subsequent Roth before end of 5-year period, 10% recapture tax will apply. A separate designated Roth sub-account should be established for each in-plan Roth conversion in order to appropriately apply the recapture tax or acceleration of income rules

42 Recharacterization In-plan NOT Permitted A conversion from a traditional IRA to a Roth IRA may be recharacterized prior to the individual s tax filing deadline, including extensions There are no recharacterizations of within plan conversions back to pretax qualified plan sources 83 Plan Amendment Plan must have a designated Roth provision to permit in-plan Roth conversions Notice Q/A-20 indicates that to have a qualified Roth contribution program in place means to already have deferral elections permitting Roth deferrals available at the point when the in-plan conversion is to be implemented and if that is in place, the amendment to add the designated Roth provision to the document may be made by Dec. 31,

43 Plan Amendment Limiting in-plan conversion to: Only in-plan conversion permitted by Notice guidance Other in-service provisions may be added Caveat: Beware anti-cutback issue Rollovers into the plan Permitting conversions Permitting in-plan conversion via transfer 85 Roth IRA Conversion Advantages Vs. In-plan Roth IRA Advantages Traditional IRA to Roth IRA may be recharacterized No RMD during participant lifetime No distributable event required to access In-plan conversion advantages Creditor protection Possibly less fees Possible loan 86 43

44 Other Considerations Individual must have ability to pay tax on amount converted Withdrawing additional amount above conversion and having 100% withholding Requires distributable event If under 59½, distribution above conversion is subject to 10% penalty Disclosures Disclosure to participant in SMM of plan amendment Don t wait the 210 days Of taxes due upon conversion, 402(f) Notice 87 Measuring Five-year Designated Roth Clock The five-year designated Roth clock starts on the first day of the calendar year in which the earliest of the following occurs: The in-plan Roth conversion The first designated Roth contribution A direct rollover of designated Roth contributions from a prior employer s plan with an earlier contribution starting year 88 44

45 QUALIFIED ROLLOVER CONTRIBUTIONS IRS Notice , Rollover to Roth IRA, Pension Protection Act, 824 Qualified Rollover Contributions Notice creates new term: Qualified Rollover Contribution (QRC) for rollover from eligible retirement plan to a Roth IRA Any pretax amounts rolled via a QRC must be included in gross income for year of the rollover A QRC from a non Roth IRA to a Roth IRA is also called a conversion 90 45

46 Qualified Rollover Contributions QRC - taxable event, from a qualified plan, SEP, 403(b), gov t 457(b) plan or SIMPLE IRA, provided after 2 year participation QRC nontaxable event, from Another Roth IRA or a designated Roth 401(k) or 403(b) Note: a non-roth IRA to a Roth IRA is also called a conversion 91 Qualified Rollover Contributions Additional Rollovers to Roth IRA HEART ACT: Military Death Gratuity and service members group life insurance payments Maximum $100,000 death gratuity and $400,000 SGLI payment EESA: Exxon Valdez Case settlement; Maximum: $100,000 reduced by prior year s settlement income PPA: Qualified Airline Employee, bankruptcy 9-11 to , up to amount reported on Form

47 Qualified Rollover Contributions Effective date As of January 1, 2008, PPA permits with AGI limit of $100,000 and if married must file jointly As of January 1, 2010, the above restrictions are removed Once a year IRA to IRA rollover rule not invoked by conversion from non-roth to Roth IRA, nor from workplace employer plan to Roth IRA 93 Qualified Rollover Contributions Direct Rollover Beneficiary Options Nonspouse Beneficiaries may make a QRC to an inherited Roth IRA, provided eligible Spouse may make QRC to either Their own Roth IRA (or Traditional) Inherited IRA, Roth (or Traditional) 94 47

48 DIFFERENCE BETWEEN ROTH IRA and DESIGNATED ROTH Designated Roth Pro-rata Versus Roth IRA Ordering Rules IRS Chart Pro-Rata Distributions, Not Ordering The Roth 401(k), 403(b) and governmental 457(b) will not have the same distribution ordering rules as the Roth IRA Roth IRA you can take after-tax contributions out first and leave the earnings Designated Roth plans as stated earlier, you must withdraw pro-rata (Roth and earnings) of nonqualified distributions (if not taking the entire amount) 96 48

49 Roth IRA Distribution - Ordering Rules When There Are Conversion Funds Roth IRAs have an ordering of which sources are to be distributed first (instead of pro-rata) Note: All Roth are aggregated for these rules (Roth and non-roth are not aggregated) First: Roth IRA contributions OR rollovers from designated Roth accounts Second: Converted funds FIFO: Funds that were taxable FIFO: Funds not taxable such as non-deductible IRA Third: Earnings 97 Roth IRA Distribution Ordering Rules - Example In 2009, Roth IRA has a cumulative amount of $15,000 of Roth IRA contributions, excluding earnings In addition, there is $40,000 of conversion from non-roth IRA in 2008 In 2009, individual (age 35) withdraws $16,000 The first $15,000 is treated as from the regular Roth IRA contributions $1,000 is treated as from the conversion amount The $1,000 is subject to the 10% penalty, due to withdrawal being made before 5 years of conversion 98 49

50

51 Questions & Comments That s All Folks!!! You may any questions or comments to me at: bgrossman@mhco.com