… The new rules basically let you convert everything in a traditional
401(k), including pre-tax salary deferrals, at any age, into a Roth 401(k).
“They’re opening up in a major way the assets you hold that can be converted,”
says Ed Ferrigno, vice president, Washington affairs, with the Profit Sharing
Council of America.
Does your employer offer a traditional 401(k) retirement
plan? If so, you may consider asking if there are plans to also offer the Roth
401(k), and the option of converting a traditional pre-tax plan to a Roth plan.
The new American Taxpayer Relief Act (aka
Fiscal Cliff Deal) expands eligibility for these conversions. Depending upon
your situation, paying the tax now may benefit you in the long-term.
Clearly, Congress is hoping to raise some revenue by
allowing these taxable conversions. And while it may seem counter-intuitive to
pay the tax now, there are situations in which a 401(k) Roth conversion makes
sense. Here’s how it works: the new
rules basically let you convert everything in a traditional 401(k), including
pre-tax salary deferrals, at any age, into a Roth 401(k). You pay income tax on
the amount you convert. Your new Roth account continues to grow tax free and the eventual distributions also are
tax free. According to Forbes, “a Roth conversion makes sense if you expect your tax rate to be the same
or higher in retirement and won’t need the funds for a decade or more. It’s
also an attractive way to leave an income-tax-free inheritance to your kids or
grandkids.”
As with all tax and retirement planning strategies, there
are a few caveats:
- Unlike the traditional IRA Roth conversion
rules, there is no option to split your tax bill over two years. You will owe
the entire tax on whatever amount you convert (remember, Congress is trying to
raise some revenue here!). - Also unlike traditional IRA Roth conversions,
you cannot un-do your conversion next year if you change your mind. Your 401(k)
conversion is permanent. - Both the Roth 401(k) plan and the conversion
option must be included in your employer’s plan offering for you to take
advantage of this strategy.
Forbes has a handy
online slide show outlining 10
reasons you might want to convert to a Roth IRA. If any of these fit your
situation, be sure to consult with a qualified retirement planning and tax
specialist before making a move.
For more information about retirement planning in Torrance,
CA, please visit my estate planning website.
Reference: Forbes
(January 2, 2013), “Roth 401(K) Conversions For All Thanks To
Fiscal Cliff Deal”