Author Topic: Roth 401k Conversion/Withdrawal Questions  (Read 776 times)

Mavmoses07

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Roth 401k Conversion/Withdrawal Questions
« on: February 27, 2019, 10:35:50 AM »
So first a little background on our situation, we max our 401ks, HSAs, backdoor Roth IRAs, and have enough savings leftover to contribute to our Vanguard brokerage account.

Recently my wife found out that her employer allows her to:

1) Make after-tax contributions in addition to pre-tax and Roth contributions
2) Convert after-tax contributions to Roth using a new Roth in-plan conversion feature
3) Setup automatic after-tax conversions to Roth (there doesn't seem to be a fee to do this, but I will check)

So if she were to contribute to the after-tax account and immediate convert it to a Roth 401k, it is my understanding that this would be very similar to the megabackdoor Roth IRA. So my questions are:

1. Is this essentially the same as a megabackdoor Roth IRA except that the funds would be in a Roth 401k?
2. Any reason we shouldn't take advantage of this (her company offers low-cost index funds)?
3. What are the withdrawal rules for a Roth 401k before age 59.5? Are the rules similar to that of a Roth IRA (5 year wait period, no penalty/tax on withdrawing the contributions)? I know one difference would be that in order for her to access the funds she'd have to leave her employer.

TIA!

dandarc

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Re: Roth 401k Conversion/Withdrawal Questions
« Reply #1 on: February 27, 2019, 10:42:39 AM »
That is about as perfect a Mega-Backdoor Roth setup as you can get.

Key will be to not contribute so much that you foul up any match she's getting - still subject to the overall limit ($56K for 2019, assuming the plan allows the IRS maximum)

The rules for withdrawing from a Roth 401K early are not the same as a Roth IRA, however the work-around is simple: When she separates from the employer, roll the Roth 401K into a Roth IRA. The basis follows and becomes "regular contributions" for the purposes of "withdraw regular Roth IRA contributions without tax and penalty at any time".

And make sure you're tracking your Roth IRA and 401K basis - would suck to not be able to take advantage of that because you don't have good records.
« Last Edit: February 27, 2019, 10:44:55 AM by dandarc »

TheHardenedInvestor

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Re: Roth 401k Conversion/Withdrawal Questions
« Reply #2 on: February 27, 2019, 11:09:56 AM »
The rules for withdrawing from a Roth 401K early are not the same as a Roth IRA, however the work-around is simple: When she separates from the employer, roll the Roth 401K into a Roth IRA.

In addition to this, make sure you open and fund that normal Roth IRA today to satisfy the Roth IRA 5-year rule before needing that account. When you roll a Roth 401k to a Roth IRA the 5-year rule starts from the account it gets rolled into and NOT from the Roth 401k.

dandarc

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Re: Roth 401k Conversion/Withdrawal Questions
« Reply #3 on: February 27, 2019, 11:15:35 AM »
+1 TheHardenedInvestor - that's another gotcha

Mavmoses07

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Re: Roth 401k Conversion/Withdrawal Questions
« Reply #4 on: February 27, 2019, 11:33:37 AM »
Thank you very much for the responses!

TheHardenedInvestor, my wife and I both have had Roth IRAs for 3 years now, so we should be set on that front.

When you roll a Roth 401k to a Roth IRA the 5-year rule starts from the account it gets rolled into and NOT from the Roth 401k.
Just to clarify, the 5-year rule for the Roth 401k starts the year the Roth 401k is rolled into a Roth IRA? So if we rolled her Roth 401k into a Roth IRA in 2025, we couldn't withdraw contributions from that account until 2030?

While it's unfortunate, I believe we can still work around this. I don't think my wife would leave her job before we hit FI, but you never know.

dandarc

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Re: Roth 401k Conversion/Withdrawal Questions
« Reply #5 on: February 27, 2019, 11:39:09 AM »
Thank you very much for the responses!

TheHardenedInvestor, my wife and I both have had Roth IRAs for 3 years now, so we should be set on that front.

When you roll a Roth 401k to a Roth IRA the 5-year rule starts from the account it gets rolled into and NOT from the Roth 401k.
Just to clarify, the 5-year rule for the Roth 401k starts the year the Roth 401k is rolled into a Roth IRA? So if we rolled her Roth 401k into a Roth IRA in 2025, we couldn't withdraw contributions from that account until 2030?

While it's unfortunate, I believe we can still work around this. I don't think my wife would leave her job before we hit FI, but you never know.
You're good since your Roth IRAs are already open.

If you did not already have Roth IRAs, then the rollover would be opening your Roth IRA for the first time and the 5 year clock would start then. But that's not your situation - the 5 year clock started 3 years ago on your Roth IRAs.

TheHardenedInvestor

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Roth 401k Conversion/Withdrawal Questions
« Reply #6 on: February 27, 2019, 11:46:31 AM »

If you did not already have Roth IRAs, then the rollover would be opening your Roth IRA for the first time and the 5 year clock would start then.

Exactly. I was trying to save you from this reality.

dandarc

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Re: Roth 401k Conversion/Withdrawal Questions
« Reply #7 on: February 27, 2019, 11:56:59 AM »
In any event, the 5 year account age rule doesn't really matter, since we're talking about withdrawals of contributions.

The 5 year "account age" rule is for qualified withdrawals - we're talking about withdrawal of contributions.

There is a potential hiccup with the 5 year rule on conversions with the megabackdoor roth, but the downside is pretty minimal even if you run into it - 10% of the taxable portion of the in-plan conversion. Since these are after-tax contributions, that's only the growth between when the contribution is made and when the conversion to Roth happens - should be small or 0. Pretty good explanation here:

https://thefinancebuff.com/rollover-after-tax-401k-403b-access-before-59-1-2.html

Mavmoses07

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Re: Roth 401k Conversion/Withdrawal Questions
« Reply #8 on: February 27, 2019, 12:26:01 PM »
In any event, the 5 year account age rule doesn't really matter, since we're talking about withdrawals of contributions.

The 5 year "account age" rule is for qualified withdrawals - we're talking about withdrawal of contributions.
https://thefinancebuff.com/rollover-after-tax-401k-403b-access-before-59-1-2.html

So one can withdraw Roth contributions if a Roth account has been open at least 5 years, regardless of account owner's age. However, if a conversion was made (401k -> Roth IRA) then one has to wait 5 years after the conversion is made to withdraw the corresponding conversion contributions (like the Roth conversion ladder).

But, you're both saying that rolling a Roth 401k into Roth IRA does not fall under the same 5 year rule as the Roth conversion ladder? That sounds great... why is that the case?

dandarc

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Re: Roth 401k Conversion/Withdrawal Questions
« Reply #9 on: February 27, 2019, 12:31:54 PM »
The rollover from a Roth 401K to a Roth IRA is not a conversion - it is already "Roth".

The money went from "not Roth" to "Roth" when you did the in-plan conversion.

Mavmoses07

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Re: Roth 401k Conversion/Withdrawal Questions
« Reply #10 on: February 27, 2019, 01:07:02 PM »
Wow! That's great to hear, thanks for your help!