In Plan 401K to 401K Roth conversions

[Tiny]

So, my 401K plan offers a 401K Roth.  

I haven't contributed to the 401K Roth. 

IF  I were to do an in plan 401K Roth conversion I know I would need to pay income taxes on the amount converted and would need to use money from outside my 401K plan to pay the taxes. 

Here's my question/concern:   I've read that one of the "rules" for doing an in plan conversion is that I can only do this if the Roth 401K has been open (vested?) for 5 years. 

If this is the way it works... ::sigh:: another thing I didn't realize that I should have done sooner.  

And  Is this the 5 year rule I hear about??  

[Tiny]

OK, one more thing...

I have a Traditional Roth and I have a Roll over 401K IRA which I think is now considered a Traditional IRA.


I can do a Roth conversion of Large Chunks (I assume I don't have convert the whole Pile) of the money in the "Roll over 401K IRA" and then pay income tax on what I roll over.

Is it more expensive "tax" wise to do this kind of a conversion versus within a 401K plan?

[saveinla]

Does your plan allow for these conversions? You may have to pay a 10% penalty in addition to any taxes if you are below age 59.5 years.

[tallguy]

I never had a Roth 401k option so never looked at the rules involved, but I would find it hard to believe that was the case.  There are two different five-year rules with regard to the earnings being tax-free in a Roth IRA if you are under 59.5.  The Roth must be open for five tax years (not calendar years) and each conversion has its own five-year clock.  I am guessing those would be similar to the 401k.  I cannot imagine that you are disallowed from doing a conversion if you have not had the account open for five years.  You should recheck that first.  What you may be in fact referring to is that only funds that are fully vested are eligible for rollover.  Everything you contributed is fully vested immediately.  If there are employer matching funds in the account then they may not be.  Again, I am mostly guessing here since I don't have experience with this nor do I have access to your plan rules. 

Second, you will have to pay income tax on the amount converted whether it is in a 401k plan or not, so I am not sure what you mean by "more expensive tax-wise."  Generally, though, Roth conversions are better done after one leaves employment so the conversion amount is not taxed on top of your earned income at a higher marginal rate.

Finally, there is no penalty on conversions at any time.  There is a penalty on early distributions but a conversion is not a distribution.  A conversion puts the money in a different account.  A distribution puts it in your pocket.  

[Tiny]

My 401K plan allows for the conversions WITHIN the plan. The document about my 401K that I was reading indicated only income taxes would be due - no penalties.

I was looking for info online and came across what sounded like "you can only convert WITH IN a 401K Plan if the Roth WITH IN the plan is at least 5 years old (it's vested?) "

Which opened up the can of worms:

I have heard about the "5 Year" thing But, I thought that was for withdrawing anything above one's initial contributions if one was NOT over the age of 59.5. I have a TRADITIONAL Roth and a "roll over 401K" IRA - which I believe is treated like a Traditional IRA...

i didn't think you had to have a Roth opened for a specific amount of time before you could do a conversion into it --- inside an employer's plan or with a Traditional Roth...

I have a substantial employer 401K plan balance, I will have a bunch of years of lower income, and I think it would be awesome if I could convert some of the 401K balance to a Roth with in the plan. But I don't use/have a balance in the 401K Roth option of the plan.

I realize I need to understand how the plan works - just trying to wrap my brain around how this works in general.

[Tiny]

May 2, 2022 11:20:50 GMT -5 tallguy said:

I never had a Roth 401k option so never looked at the rules involved, but I would find it hard to believe that was the case.  There are two different five-year rules with regard to the earnings being tax-free in a Roth IRA if you are under 59.5.  The Roth must be open for five tax years (not calendar years) and each conversion has its own five-year clock.  I am guessing those would be similar to the 401k.  I cannot imagine that you are disallowed from doing a conversion if you have not had the account open for five years.  You should recheck that first.  What you may be in fact referring to is that only funds that are fully vested are eligible for rollover.  Everything you contributed is fully vested immediately.  If there are employer matching funds in the account then they may not be.  Again, I am mostly guessing here since I don't have experience with this nor do I have access to your plan rules. 

Second, you will have to pay income tax on the amount converted whether it is in a 401k plan or not, so I am not sure what you mean by "more expensive tax-wise." 
Generally, though, Roth conversions are better done after one leaves employment so the conversion amount is not taxed on top of your earned income at a higher marginal rate.

Finally, there is no penalty on conversions at any time.  There is a penalty on early distributions but a conversion is not a distribution.  A conversion puts the money in a different account.  A distribution puts it in your pocket.  

Sorry, I should have edited that....

A couple of years ago - I had too much income and thought I could do a "back door roth" but I already had a traditional IRA  (an old rolled over 401K) that has a 6 figure balance.   I tried to calculate how  converting 7K from my Traditional IRA  to my trad Roth IRA would effect my taxes....  and my "incorrect use of math and lack of understanding of the process" seemed to indicate that I wasn't "just adding 7K of income" to my total everyday income - but rather some sort of a percentage of the TOTAL value of my tIRA.  And that's what I would be taxed on (which was MORE than the 7K I wanted to convert).    My head hurt at that point and I didn't finish the exercise OR  do the "back door roth".   

I am "math challenged" which complicates a lot of this kind of stuff for me. 

That failed exercise - is what made me say "more expensive tax wise" -  and I admit it was incorrect to say that here.

[tallguy]

May 2, 2022 11:45:06 GMT -5 Tiny said:

May 2, 2022 11:20:50 GMT -5 tallguy said:

I never had a Roth 401k option so never looked at the rules involved, but I would find it hard to believe that was the case.  There are two different five-year rules with regard to the earnings being tax-free in a Roth IRA if you are under 59.5.  The Roth must be open for five tax years (not calendar years) and each conversion has its own five-year clock.  I am guessing those would be similar to the 401k.  I cannot imagine that you are disallowed from doing a conversion if you have not had the account open for five years.  You should recheck that first.  What you may be in fact referring to is that only funds that are fully vested are eligible for rollover.  Everything you contributed is fully vested immediately.  If there are employer matching funds in the account then they may not be.  Again, I am mostly guessing here since I don't have experience with this nor do I have access to your plan rules. 

Second, you will have to pay income tax on the amount converted whether it is in a 401k plan or not, so I am not sure what you mean by "more expensive tax-wise." 
Generally, though, Roth conversions are better done after one leaves employment so the conversion amount is not taxed on top of your earned income at a higher marginal rate.

Finally, there is no penalty on conversions at any time.  There is a penalty on early distributions but a conversion is not a distribution.  A conversion puts the money in a different account.  A distribution puts it in your pocket.  

Sorry, I should have edited that....

A couple of years ago - I had too much income and thought I could do a "back door roth" but I already had a traditional IRA  (an old rolled over 401K) that has a 6 figure balance.   I tried to calculate how  converting 7K from my Traditional IRA  to my trad Roth IRA would effect my taxes....  and my "incorrect use of math and lack of understanding of the process" seemed to indicate that I wasn't "just adding 7K of income" to my total everyday income - but rather some sort of a percentage of the TOTAL value of my tIRA.  And that's what I would be taxed on (which was MORE than the 7K I wanted to convert).    My head hurt at that point and I didn't finish the exercise OR  do the "back door roth".   

I am "math challenged" which complicates a lot of this kind of stuff for me. 

That failed exercise - is what made me say "more expensive tax wise" -  and I admit it was incorrect to say that here.

Yeah, that is the pro-rata rule.  It makes things more complicated and less beneficial to convert.

[teen persuasion]

One drawback I've heard of, for having both Roth and pre-tax 401k amounts (whether from contributions to each side, or conversion from pre-tax to Roth) is that some employer's plans won't allow you to have a different asset allocation for each side. Essentially, you get one asset allocation, and it's applied to the whole pot, which is treated as x% pre-tax and 100-x% Roth.

In practice, you'd usually want your Roth all stock funds, and your pre-tax side bond+stock funds (highest potential for growth in the never-taxed-again Roth, slower growth in the portion you will eventually be taxed on).

If your employer's plan has this limitation, do your conversions outside of it, in your rollover tIRA. Practically, they are equivalent, but you have more control over your IRA accounts.

-secret-PS: There's no such thing as a traditional Roth. An account is either Roth (post-tax, never taxed again), or taxable (post-tax, LTCG taxes), or traditional (for lack of a name for the first kind of IRA; pre-tax, taxed as OI at withdrawal).

[Tiny]

May 2, 2022 12:40:02 GMT -5 teen persuasion said:

One drawback I've heard of, for having both Roth and pre-tax 401k amounts (whether from contributions to each side, or conversion from pre-tax to Roth) is that some employer's plans won't allow you to have a different asset allocation for each side. Essentially, you get one asset allocation, and it's applied to the whole pot, which is treated as x% pre-tax and 100-x% Roth.

In practice, you'd usually want your Roth all stock funds, and your pre-tax side bond+stock funds (highest potential for growth in the never-taxed-again Roth, slower growth in the portion you will eventually be taxed on).

If your employer's plan has this limitation, do your conversions outside of it, in your rollover tIRA. Practically, they are equivalent, but you have more control over your IRA accounts.

-secret-PS: There's no such thing as a traditional Roth. An account is either Roth (post-tax, never taxed again), or taxable (post-tax, LTCG taxes), or traditional (for lack of a name for the first kind of IRA; pre-tax, taxed as OI at withdrawal).

but some people call their employer 401K pre tax account - an IRA! But when people talk about the kind of IRA that's NOT an employer plan thing - it's typically called a traditional IRA

Seems like now that there are Roths inside employer's 401K plans - the Roth outside the employer plan would be called a traditional Roth.

[Tiny]

I'm going to plow thru my employers document on "In-Plan Roth Rollovers" again... My eyes may have glazed over/brain went numb the first couple of times I read thru it. 


And for what it's worth - I am now positive my eyes glazed/brain went numb  while reading up on Roths and In Plan Conversions  ON LINE  and that's where I came up incorrectly with the "the you need a Roth account that's 5 (tax years) old IN YOUR 401K PLAN before you can do In Plan conversions" thing.    That is not in my employer's documentation.  

[Tiny]

OK. I got out my highlighter out and started re-reading the document:
Here's what I got:

1. you can elect to have all or a portion of your existing eligible pre-tax balances rolled over to a Roth at anytime.
2. there is no limit to the requests you can make.
3. there is no fee for in plan Roth Rollovers - but you will have to pay income taxes on any pre-tax money you roll over. The taxes will NOT be witheld from the rollowver amount. You will be responsible for paying taxes on the amount converted with funds outside of the 401K plan. You will receive a Form 1099-R after year end for the in plan Roth Rollovers made during the year.

ADDing this here (after more reading) :   
I have no employer match - so the "vesting" thing isn't a thing for me.  I see that I am "100% vested" on a report I printed out from Schwab at year end 2021.   All the money in my 401K appears to be available for an "In plan Roth Conversion" - but doing that would be a HORRIBLE thing to do.          I'm thinking the "vesting" thing got jumbled into my head when I went on-line to "research" in plan roth conversions in general - not my 401K plan or my situation.
   
  

[tallguy]

May 2, 2022 21:00:31 GMT -5 Tiny said:

I'm going to plow thru my employers document on "In-Plan Roth Rollovers" again... My eyes may have glazed over/brain went numb the first couple of times I read thru it. 


And for what it's worth - I am know positive my eyes glazed/brain went numb  while reading up on Roths and In Plan Conversions  ON LINE  and that's where I came up incorrectly with the "the you need a Roth account that's 5 (tax years) old IN YOUR 401K PLAN before you can do In Plan conversions" thing.    That is not in my employer's documentation.  

Good.  One thing to make note of when you do your research:  Where you were confused earlier and mentioned "vesting" it most likely referred to your employer matching funds.  Those are required to be placed in a traditional 401k account and not the Roth 401k account even if you are contributing to Roth.  There is most likely a vesting schedule, where your vested percentage increases each year until it reaches 100%.  Some companies may have eliminated vesting requirements, but typically it would have been something like 20% after the first year, 40% after the second, and on up to being fully vested after five years.  What that means is that if you left employment after two years and your employer matching funds equaled $10,000, only 40% or $4000 would actually be "yours" at that point and could be taken with you to another plan or rolled over to an IRA.  Monies that have not vested are not eligible to be converted. 

[teen persuasion]

May 2, 2022 20:56:59 GMT -5 Tiny said:

May 2, 2022 12:40:02 GMT -5 teen persuasion said:

One drawback I've heard of, for having both Roth and pre-tax 401k amounts (whether from contributions to each side, or conversion from pre-tax to Roth) is that some employer's plans won't allow you to have a different asset allocation for each side. Essentially, you get one asset allocation, and it's applied to the whole pot, which is treated as x% pre-tax and 100-x% Roth.

In practice, you'd usually want your Roth all stock funds, and your pre-tax side bond+stock funds (highest potential for growth in the never-taxed-again Roth, slower growth in the portion you will eventually be taxed on).

If your employer's plan has this limitation, do your conversions outside of it, in your rollover tIRA. Practically, they are equivalent, but you have more control over your IRA accounts.

-secret-PS: There's no such thing as a traditional Roth. An account is either Roth (post-tax, never taxed again), or taxable (post-tax, LTCG taxes), or traditional (for lack of a name for the first kind of IRA; pre-tax, taxed as OI at withdrawal).

but some people call their employer 401K pre tax account - an IRA! But when people talk about the kind of IRA that's NOT an employer plan thing - it's typically called a traditional IRA

Seems like now that there are Roths inside employer's 401K plans - the Roth outside the employer plan would be called a traditional Roth.

Arggh, I had a whole long post, and it's gone poof!

Let's try again.

Yes, I've been known to refer to DH's 401k, etc, as an IRA, because it's effectively the same type of account, and because it will eventually get rolled over to an IRA.  But he already has a Roth IRA.  When he rolls it over, he will roll it to a traditional IRA, the type that existed before the Roth version was invented.

So IRAs can be traditional (with pre-tax contributions), or Roth (post-tax contributions).  And 401ks can be traditional or Roth.  But an account can't be a "Roth" by itself - it first has to be an IRA, or a 401k, or a 403b, or a 457...

Some employer accounts allow contributions beyond the combined $20.5k + $6.5k limit.  With no name (again!) People refer to them as post-tax contributions; you won't be taxed when withdrawing the contributions, but withdrawal of the growth is taxable. Unless! - you convert to Roth those post-tax contributions immediately before any growth - then all the growth will occur INSIDE the Roth account where it is by design tax free forever.

I suspect this Mega Backdoor Roth (shorthand made up name for contributing post-tax and immediately Roth converting it) is the real reason for the in plan Roth conversion option. You first fill up your normal contribution limit with pre-tax traditional contributions for the tax deferral. Then, if your plan allows additional post-tax contributions you fill that bucket up, too, and convert immediately. Ta-da, you have created extra Roth space you didn't have before.