Author Topic: 401k Trick to get 30k into Roth IRA/year  (Read 5820 times)

MrMoogle

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401k Trick to get 30k into Roth IRA/year
« on: January 06, 2015, 09:28:31 PM »
Am I understanding this correctly?  I just saw something about this in a very old forum post, and started doing research.  If so, this is really neat way to get more money into tax advantaged accounts, assuming your 401k offers it.

There seems to be a way to put more than the $18k limit into your 401k annually, and still have it tax advantaged.  I haven't figured out all the details yet.  But for 2015, it would basically raise the limit from $18k (the 401k Elective Deferral Limit) to $53k (Annual Defined Contribution Limit).

The 401k Elective Deferral Limit is the amount individuals can directly put into their 401k tax advantaged (Traditional or Roth) account.

If you didn't know already, there are three types of IRA and therefore 401k accounts: Traditional, Roth, and something called post-tax or after-tax or nondeductible IRA.  The Traditional and Roth are tax advantaged.  The after-tax is not.  If you put money into a after-tax you still pay taxes on any profits similar to a normal brokerage account.  The one thing that's different is that you pay income taxes on the profits in a after-tax account, where as you pay taxes on dividends and capital gains.  Usually income taxes are higher, so typically after-tax accounts are ignored, and rarely discussed except for backdoor Roth IRA's.  Also beware, a lot of people use Roth and after-tax interchangeably, so make sure they distinguish between the two.

The Annual Defined Contribution Limit is the sum of your 401k tax advantage contributions, plus employer match, plus anything you put in the after-tax account.

The cool thing about the after-tax account (either IRA or 401k) is that the contributions can be rolled over into a Roth IRA, and any profits can be rolled into a Traditional IRA.  The problem was, up until September, if you had multiple sources (roth, traditional, after-tax contributions, after-tax interest), it got really complicated on how you do this.  And actually for IRA to IRA, it is still complicated.  But for 401k after-tax to Roth and Traditional IRA, they made it relatively simple.

So this year, you could theoretically put $18k into your Traditional/Roth 401k, get your company match, say $2k for this purpose, then put the rest, up to $33k into an after-tax 401k.  And then convert the $33k into a Roth IRA and any profits from the $33k into a Traditional IRA.

First thing is not all companies offer this, but my company does.  The other thing is that you can actually do the conversion before you quit, if your company offers in-service distributions.  And this is nice, if you quickly convert, it will allow all the interest to be tax free.

So basically, the $18k limit is only a suggestion, as long as you don't mind putting the rest into a Roth.  I'm going to keep digging and make sure this is all accurate, but from what I've found, it is.
 

Sources:

http://fairmark.com/retirement/roth-accounts/roth-conversions/isolating-basis-for-roth-conversion/

http://fairmark.com/retirement/roth-accounts/roth-conversions/isolating-basis-for-roth-conversion/using-new-basis-isolation-rules/

http://www.forbes.com/sites/ashleaebeling/2014/10/15/aftertax-401k-rollovers-advanced-version/

Roland of Gilead

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Re: 401k Trick to get 30k into Roth IRA/year
« Reply #1 on: January 06, 2015, 09:45:44 PM »
Yes.  Unfortunately we only started doing this last year but it went smoothly.   We contributed 17,500 to 401K like normal, then contributed an extra $20k (the max our company allows) as after tax.  This money was tracked separately by the 401K servicer (Fidelity).  A quick phone call during the October downturn in the market and the money was directly converted into a Roth IRA with no tax due (I think at the time it had a loss of about $100 and a balance of $19,900 but went right back up with the market in November/December).   

So $25,500 into a Roth IRA in one year...not bad!

MrMoogle

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Re: 401k Trick to get 30k into Roth IRA/year
« Reply #2 on: January 06, 2015, 09:51:04 PM »
That's pretty awesome.  I will be doing that this year then. 

Hey It's Me

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Re: 401k Trick to get 30k into Roth IRA/year
« Reply #3 on: January 06, 2015, 09:54:16 PM »
This is pretty awesome. I'm a little confused, however. You mentioned your company has to offer the after-tax 401k - is that automatically an option if your employer offers a 401k, or is it a separate type of account?

MrMoogle

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Re: 401k Trick to get 30k into Roth IRA/year
« Reply #4 on: January 06, 2015, 10:00:58 PM »
It has to allow for it, I'm not sure how standard it is.  For me it's called "Nondeductible Employee Contributions."  It's spelled out in my 401k handbook.  It falls under the same account.  I use vanguard, and I can choose my distribution source.  I can choose pre-tax, post-tax, or Roth.  This would fall under post-tax, I believe.

Roland of Gilead

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Re: 401k Trick to get 30k into Roth IRA/year
« Reply #5 on: January 06, 2015, 10:01:47 PM »
Your company has to offer the ability to contribute after tax money to a 401K and the 401K service company needs to offer what is called an "in plan conversion".   The money is in the same account but they will have you open a new Roth IRA with them to receive the converted 401K money.  It is all free though.

Fidelity knew all about it when I talked to them, which surprised me.   I was used to talking to people and knowing more about these topics than they do.

MDM

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shuffler

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Re: 401k Trick to get 30k into Roth IRA/year
« Reply #7 on: January 07, 2015, 02:32:37 AM »
... the 401K service company needs to offer what is called an "in plan conversion".  The money is in the same account but they will have you open a new Roth IRA with them to receive the converted 401K money.  It is all free though.
FWIW, I think there are two slightly different options for the rollover.  "In service distributions" are one option, which means you take the 401k's after-tax money and "distribute" it out to a Roth IRA.  The other option is what my company's 401k plan calls an "in-plan conversion" meaning that my 401k's after-tax funds get converted to 401k Roth funds, but still remain within the 401k plan.

My company's plan allows for in-plan conversions, but not in-service distributions.  They want you to keep the money in the 401k.
I've done this the past two years, up to my plan's $20k limit for after-tax contributions, and am now starting my 3rd year.

Fidelity knew all about it when I talked to them, which surprised me.   I was used to talking to people and knowing more about these topics than they do.
The Fidelity guy I talked to two years ago knew that it existed, but had to ask if he could call me back while he went to read the manual on how to actually do it.  I guess it depends on the individual rep.

boarder42

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Re: 401k Trick to get 30k into Roth IRA/year
« Reply #8 on: January 07, 2015, 06:06:24 AM »
Only about 45% of american companies offer post tax contributions to a 401k and even fewer allow that type of in service withdraw needed to roll over to a Roth account.  Check with your employer and good luck.  Mine does not. 

Also checkout MadFientist he just did a post on this a month ago.

Schaefer Light

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Re: 401k Trick to get 30k into Roth IRA/year
« Reply #9 on: January 07, 2015, 06:20:50 AM »
Only about 45% of american companies offer post tax contributions to a 401k and even fewer allow that type of in service withdraw needed to roll over to a Roth account.  Check with your employer and good luck.  Mine does not. 

Also checkout MadFientist he just did a post on this a month ago.
Neither does mine.  They brought in a rep from our 401(k) provider and he looked at me like I was crazy when I asked about it.  I learn more about investing reading these forums, Bogleheads, MadFientist, etc., than I do talking to a trained professional.

PathtoFIRE

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Re: 401k Trick to get 30k into Roth IRA/year
« Reply #10 on: January 07, 2015, 07:01:03 AM »
Has anyone here been able to change their company's policy to allow at least nondeductible elective contributions? My company's 401k is with Fidelity, and the documents clearly state that aftertax contributions are not allowed, and only allows hardship in-service rollovers, and I'm just wondering what the hurdles are to implementing this. We are saving a lot in aftertax, and I'm even using my company's deferred compensation program (which matches 25% up to 20k/yr that vests over 4 years) as our appetite for tax advantages is large, but that plan makes me very nervous.