Small Business Jobs Act Allows In-Plan Roth Conversions

by Stacey L. Spencer, QKA, Manager, Employee Benefits Group

On September 27, 2010, President Obama signed into law the Small Business Jobs Act of 2010 (SBJA). This new law permits Roth 401(k) and Roth 403(b) plan sponsors to amend their plans to allow individuals to transfer otherwise distributable money from their 401(k) pre-tax account to a Roth account within the same 401(k) plan.

What is a Roth 401(k)?

Roth 401(k) plans permit eligible employees to make payroll deduction contributions on an after-tax, nondeductible or “Roth” basis versus the traditional pre-tax basis. The primary advantage to participants who make Roth contributions is that qualified distributions of investment earnings
are tax-free.

What does this mean for Participants?

If a participant elects a Roth conversion within the 401(k) plan, it is treated as a distribution for tax purposes; however, the 10% penalty for early withdrawal does not apply. For amounts converted in 2010, the participant may elect to have the tax liability payable over a two-year period from 2011 to 2012. However, because of the possibility of income tax increases in 2011, higher income individuals may want to have the tax paid in 2010. Our tax experts can assist you in making this determination.

Requirements for In-Plan Roth Conversions

The Roth conversion option is only available to plans that already have a Roth elective deferrals arrangement. If a plan decides to allow Roth conversions, only amounts that are otherwise distributable and qualify as eligible rollovers may be converted.

Plan sponsors will need to act quickly if they wish to add this provision to their plan. The plan must be amended in time to allow sufficient notice to participants so they can make informed decisions regarding this option. Please contact us if you would like more information about adding the
Roth 401(k) conversion option to your plan.