Author Topic: Roth 401k --> Roth IRA. Early withdrawal rules.  (Read 1893 times)

lostmonkey007

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Roth 401k --> Roth IRA. Early withdrawal rules.
« on: January 06, 2018, 09:50:32 AM »
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« Last Edit: February 16, 2018, 11:11:38 AM by lostmonkey007 »

seattlecyclone

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Re: Roth 401k --> Roth IRA. Early withdrawal rules.
« Reply #1 on: January 06, 2018, 09:56:47 AM »
The Roth 401(k) contributions will count as Roth IRA contributions when you do the transfer (so they will then be freely withdrawable at any time), and the Roth 401(k) earnings will count as Roth IRA earnings (which would count as taxable income plus get a 10% early withdrawal tax if withdrawn early).

seattlecyclone

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Re: Roth 401k --> Roth IRA. Early withdrawal rules.
« Reply #2 on: January 06, 2018, 02:32:06 PM »
I do the mega backdoor and do your Scenario B with no hesitation. If you make sure to do the conversions shortly after each paycheck, the taxable growth is truly minimal. Maybe $100 per year in a typical year. If the pre-tax growth was truly significant then splitting up can make sense, but it just doesn't seem worth the hassle to me to go through the extra steps just to defer tax on so few dollars, and also lose out on the regular backdoor Roth unless you go through the additional step of rolling that pre-tax IRA back into your pre-tax 401(k).

Regarding your idea to skip out on Roth entirely in favor of taxable accounts, I think that's the wrong way to go.

You only get 0% long-term capital gains to the extent that your income is low enough to take advantage (likely so in retirement, but not so until then). You'll be paying taxes on dividends each year until then if you go with a taxable account, not so in Roth.

Congress could also easily raise the tax rate, as the 0% rate has only existed for about a decade. I don't think this has as much of an entrenched long-term promise built into it as does the idea that Roth IRAs will remain tax-free at traditional retirement age.

If you live in a state with income tax your capital gains probably won't truly be tax-free anyway.

Under current ACA rules, capital gains count as income that reduces your tax credit for health insurance, while Roth withdrawals don't.

The current laws make Roth accounts attractive to an early retiree for these and other reasons. Congress could of course change various laws at any time, however I find major changes to the treatment of existing Roth balances to be much less likely than many other potential rule changes that would hurt you more if you went with taxable instead.

You have enough income to max out your mega backdoor Roth and still save a sizable amount in taxable. This diversification of account types should position you well to weather any changes in laws that may come.

seattlecyclone

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Re: Roth 401k --> Roth IRA. Early withdrawal rules.
« Reply #3 on: January 06, 2018, 06:21:01 PM »
The Roth 401(k) contributions will count as Roth IRA contributions when you do the transfer (so they will then be freely withdrawable at any time), and the Roth 401(k) earnings will count as Roth IRA earnings (which would count as taxable income plus get a 10% early withdrawal tax if withdrawn early).

Is this true by the way?

Yes. This treatment is spelled out in A-3 of 26 CFR 1.408A-10. It states that the portion of your Roth 401(k) rollover that is treated as "investment in the contract" as defined in A-6 of 26 CFR 1.402A-1 counts as Roth IRA contributions for the purpose of the ordering rules, and the rest counts as Roth IRA earnings. My reading of that definition of "investment in the contract" is that it encompasses the portion of your rollover that would not count as income if you just withdrew it to your checking account instead of rolling it into another retirement account. For Roth 401(k)s, that would include your original contributions but not any earnings within the 401(k). However this is just my own interpretation of the text. I'm not a lawyer and I'm especially not your lawyer. Please read it yourself and come to your own conclusions.

How is this tracked via tax forms?

When you make an early withdrawal from your Roth IRA you'll need to file Form 8606 with your tax return. Part III of that form is about distributions from Roth IRAs. Here is where you report the total amount distributed, and figure how much counts as income by subtracting your basis in contributions and conversions. Particularly, on Line 22 you report your contributions. The instructions for Line 22 include the following text:

Quote from: Form 8606 Instructions
Increase the amount on line 22 by any amount rolled in from a designated Roth account that is treated as investment in the contract.

This brings us back to what exactly the "investment in the contract" means, as discussed above.

Let's say I have $100k Roth 401k balance.  It is a combination of contributions and earnings.  When I roll it over to my Roth IRA, wouldn't the 1099R just show it altogether as non-taxable rollover of Roth 401k dollars?  Or there are separate boxes that shows deferrals and earnings separately?

I haven't done this particular transaction before. You'll pay no tax in the year of the rollover so I'm not sure how it would be reported at that time. However your W-2s for the years when you made Roth 401(k) contributions will report your original contribution amounts, which you will eventually report as your "investment in the contract" the first time you withdraw from the Roth IRA.

seattlecyclone

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Re: Roth 401k --> Roth IRA. Early withdrawal rules.
« Reply #4 on: January 07, 2018, 01:06:12 PM »
Yep, save your records! You might need them decades in the future.

rollwiddit

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Re: Roth 401k --> Roth IRA. Early withdrawal rules.
« Reply #5 on: January 10, 2018, 01:44:09 AM »
The Roth 401(k) contributions will count as Roth IRA contributions when you do the transfer (so they will then be freely withdrawable at any time), and the Roth 401(k) earnings will count as Roth IRA earnings (which would count as taxable income plus get a 10% early withdrawal tax if withdrawn early).

Is this true by the way?  How is this tracked via tax forms? 

Let's say I have $100k Roth 401k balance.  It is a combination of contributions and earnings.  When I roll it over to my Roth IRA, wouldn't the 1099R just show it altogether as non-taxable rollover of Roth 401k dollars?  Or there are separate boxes that shows deferrals and earnings separately?
I've been doing the Mega Backdoor since 2015 with Fidelity.  I opened a Roth and Traditional IRA also with Fidelity to make the split rollover more streamlined compared to rolling over to my Vanguard IRAs.  Fidelity also charges $25 so I only do it once or twice per year.

On the 1099-R Box 1 shows the "Gross distribution" which are your contributions plus earnings.  Box 5 on the 1099-R shows your after-tax contributions which go to the Roth IRA; this is your contribution bias.  The remainder pre-tax earnings I have going to the Traditional IRA.

appleshampooid

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Re: Roth 401k --> Roth IRA. Early withdrawal rules.
« Reply #6 on: July 15, 2018, 10:42:44 AM »
Riddle me this...I had a Roth 401(k) rollover into a Roth IRA in 2012. The Roth 401(k) only took contributions in one tax year (2012), which was the same year I executed the rollover. On my W2 from that employer, the amount in box 12 coded with AA ("Designated Roth contribution under a 401(k) plan") is $2,961.80. But on the H-coded 1099-R from the firm that disbursed the rollover, the amount in Box 5 ("Employee Contributions/Designated Roth Contributions or Insurance Premiums") is $2,914.12.

The difference is less than $50, so not a big deal, but confusing to me as the totals should be the same.
« Last Edit: July 15, 2018, 10:52:44 AM by appleshampooid »

seattlecyclone

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Re: Roth 401k --> Roth IRA. Early withdrawal rules.
« Reply #7 on: July 15, 2018, 07:13:25 PM »
Is it possible that the Roth 401(k) declined in value by $50 by the time you rolled it over? If that happens it's possible that they only report the current value rather than your full basis.

appleshampooid

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Re: Roth 401k --> Roth IRA. Early withdrawal rules.
« Reply #8 on: July 16, 2018, 07:16:51 AM »
Is it possible that the Roth 401(k) declined in value by $50 by the time you rolled it over? If that happens it's possible that they only report the current value rather than your full basis.
Nope, there had been a slight increase in value, so Box 1 showed the full rollover amount correctly.

I think I figured it out though - someone over on Bogleheads jogged my memory and mentioned perhaps there was a fee involved. In fact I recall being pissed at Putnam (the outgoing custodian) as there was a $75 account termination and rollover fee (which is criminal), and they probably pro-rated it across the Roth and pre-tax contributions in the account.

If this is where the difference comes from, I believe it was a mistake since the fee shouldn't affect my basis (contributions), only the amount rolled over. In any case, the amount is small enough I'm not too worried. I have the W-2 as well, which seems like it is just as authoritative in this dusty, neglected corner of the tax code.