The Treasury Department and Internal Revenue Service released the final regulations (T.D. 9324) that provide guidance under Section 402A on taxing the Roth 401(k) distributions. The regulations impact administrators of, employers maintaining, participants in, and beneficiaries of 401(k) and 403(b) accounts, as well as owners and beneficiaries of Roth IRAs.
The final rules redefine “designated Roth accounts” to include only those accounts under a plan to which designated Roth contributions are made instead of elective contributions or deferrals. That means a distribution from a designated Roth account may only be rolled over to a 401(k) or 403(b) plan if the receiving account has a designated Roth program.
The rules assert that employers setting up designated Roth 401(k) or 403(b) accounts have to keep separate accounting of the contributions, gains, and losses in those plans. Qualified distributions can only begin after the participant has held the account for at least five years, after the participant has reached age 59 1/2, or becomes disabled. Roth distributions can only be rolled over to other Roth plans or to IRAs, the rules indicate.
The final rules also maintained the proposed provisions on determining the five-taxable-year period for qualified distributions. Under the rules, the period begins on the first day of the employee’s taxable year in which the employee first had designated Roth contributions made to the plan and ends when five consecutive taxable years have been completed.
A Rule Exception
There are several exceptions to the five-year rule provided in the new release. If a direct rollover is made from a designated Roth account under another plan, the period for the recipient plan begins on the first day of the employee’s taxable year for which the employee first had designated Roth contributions made to the other plan, if earlier.
The latest regulatory release kept the proposed rule saying that the distribution rollover must be accomplished through a direct rollover to roll over any amount of the basis in a designated Roth account into a designated Roth account under another plan. However, the final rules eliminated the proposed mandate that the receiving plan separately account for designated Roth contributions that are rolled over.
Certain contributions do not kick off the five-taxable-year participation period, the rules said, including excess deferrals, excess amounts distributed to avoid nondiscrimination test failure, and amounts returned under automatic enrollment plans.
The final rules are effective April 30 and generally apply to taxable years beginning on or after January 1, 2007. The final regulations are here .
Regulators released a preliminary version of the regulations in January 2006 (See Feds Clarify Roth Accounts Tax Liability ).