Tax Tip of the Week | No. 270 | IRS Issues 401(k) After-Tax Rollover Rules

Tax Tip of the Week | Oct 1, 2014 | No. 270 | IRS Issues 401(k) After-Tax Rollover Rules

The IRS has issued new rules for taking after-tax money out of a 401(k), and they are taxpayer-friendly.According to IRS Notice 2014-54, Guidance on Allocation of After-Tax Amounts to Rollovers, after-tax money in a 401(k) retirement account can be rolled into a Roth IRA where it will then grow tax-free (as opposed to tax-deferred). There are no pro rata taxes on the distribution.The notice will affect distributions made on or after Jan. 1, 2015.This decision is a shift from where the IRS stood on eligible rollover distributions of money from a retirement plan when those dollars included after-tax contributions. Previously, there was a question among experts on how to best deal with the issue. Some experts thought that if an employee wanted to split his retirement savings, sending pretax dollars to one place (say, another retirement plan or a traditional IRA) and after-tax dollars elsewhere (like a Roth IRA), it required a series of steps to do so. Taxpayers needed to have enough money outside of the plan to cover the tax bill for the portion put into the Roth IRA, too. The treatment of after tax and pretax money was the subject of heated discussion in the tax expert community.Experts caution advisers that they should not interpret the new ruling as a blessing from the IRS that clients can take money out of an IRA and convert it tax-free. This decision applies strictly to money within a company's retirement plan.Be sure to check to determine if you have after-tax money in your retirement plans, and if not, see if you can make such contributions per the terms of retirement plan.

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