Ten things to know about the Roth 401(k).

• Author: Hasseltine, Kristy R.

Since the introduction of the Roth IRA in 1997, it has become a popular retirement vehicle. However, the contribution limits for the Roth IRA have been relatively low and, due to participant income limitations, not everyone has been able take advantage of the Roth designation. The Economic Growth and Tax Relief Reconciliation Act of 2001, P.L. 10716 (EGTRRA), added Sec. 402A, which provides for designating Roth contributions. Effective January 1, 2006, many individuals previously excluded can now take advantage of the tax-free growth of Roth contributions by means of the Roth 401(k). The Roth 401(k) is not a new plan but a feature for designating deferrals as Roth contributions.

Amendments to the regulations under Secs. 401(k) and (m) provide guidance on designating Roth contributions under Sec. 402A. Initially, Sec. 402A was to sunset on December 31, 2010, but the Pension Protection Act of 2006, P.L. 109-280, made the changes under EGTRRA permanent. This item explains ten things taxpayers should be aware of when considering a Roth 401(k). (For an in-depth discussion of the Roth 401(k) rules, see Beausejour and Lynch, "An Analysis of the New Roth 401(k)/403(b) Plans," 39 The Tax Adviser 515 (August 2008).)

1. Applicable Plans

   The Roth 401(k) is a feature that can be added to a new or existing company-sponsored defined-contribution pension plan, including (1) a plan qualified under Sec. 401(a), which includes a traditional 401(k) and a safe-harbor 401(k); and (2) a 403(b) tax-sheltered annuity arrangement (Sec. 402A(e)(1)). The Roth feature is not allowed in a SARSEP or a SIMPLE IRA plan because they are not applicable retirement plans under Sec. 402A(e)(1). Employees elect to designate a portion or all of their elective contributions as Roth contributions (Sec. 402A(b)(1)).

2. Rules for Roth

   Contributions are included in gross income at the time the employee would have received the contribution amounts in cash if the employee had not made the cash or deferred election. Earnings on the account accumulate tax free and, if the distribution is qualified, the distribution is tax free. Therefore, as long as all distributions from an account are qualified distributions, the earnings on the Roth 401(k) funds are never taxed (per Sec. 402A(d)(1)).

3. Qualified and Early Distributions

   A qualified distribution is one that occurs at least five years after the year of the participant's first designated Roth contribution (counting such first year as part of...