Solo 401k Plan Roth Contributions: Frequently Asked Questions
The short answer is yes. Your Solo 401k does allow for Roth contributions.
You can choose to treat contributions under your plan which would otherwise be “elective deferrals” as designated Roth contributions. In this context, an “elective deferral” is an employer contribution to your 401k plan which is excluded from your gross income.
An elective deferral is instead a designated Roth contribution if you “designate” it as not being excludable. Your designated Roth contributions for any year may not exceed the maximum amount of elective deferrals that could be excluded from gross income.
All About the Roth IRA: A Hybrid Account
The Roth “sub-account” of the Solo 401K Plan is a hybrid of sorts. Although it is technically a type of 401k plan, it has some of the features of a Roth IRA. Only after-tax salary deferral contributions may be deposited in the Roth 401k sub-account.
No employer contributions and no pretax employee contributions are permitted. The entire account will contain only after tax contributions from your salary plus pretax earnings on those contributions.
Note: Because the Roth 401k is actually just part of a regular 401k plan, most of the rules that apply to a regular 401k plan also apply to a Roth 401k plan, including the contribution limits.
Can a Roth 401k Plan Exist On Its Own?
We wish! Unfortunately, the answer is no. A Roth 401k plan is only available as an option that can be added to a traditional 401k.
When Are Roth 401k Distributions Taxable?
Distributions from a designated Roth account are excluded from gross income if they are:
- Made after the employee attains age 59 1/2.
- “Attributable to” the employee being “disabled”.
- Made to the employee’s beneficiary or estate after the employee’s death.
However, an exclusion is denied if the distribution takes place within five years after your first designated Roth contribution to the account from which the distribution is received. Or if the account contains a rollover from another designated Roth account, to the other account.
Other distributions from a designated Roth account are excluded from gross income under internal Revenue Code 72 only to the extent they consist of designated Roth contributions and are taxable to the extent they consist of trust earnings credited to the account.
Can I Convert a Traditional 401k Plan to a Roth 401k Plan?
Yes, you can. The Small Business Jobs Act of 2010, signed by then President Obama contains a provision, which went to effect on Sept. 27, 2010. This provision allows for the conversion of a traditional 401k or 403b account to a Roth in the same plan if their employer offers one.
However, you must pay income tax on the amount converted. Let’s take a look at 3 important criteria below that need to be satisfied in order for you to reap all the benefits of a Roth 401k:
- Once your funds have been converted to the Roth 401k plan sub-account.
- Once you’re above the age of 59/1/2 .
- After your Roth 401k account has been opened at least 5 years.
All income and gains from your Roth 401k plan investment would be tax free!
Can I Rollover the Roth 401k Plan to a Roth IRA?
Yes. You are permitted to roll over your Roth 401k plan assets into a Roth IRA. Your assets can be transferred via a direct rollover, which will avoid mandatory income tax withholdings.
Can I Rollover a Roth IRA to a Roth 401k Plan?
No. But you can roll over assets from a Roth 401k to a Roth IRA. (Basically, you can’t do the reverse.)
How Are Distributions From Roth 401ks Taxed?
All distributions from Roth 401k’s are either qualified distributions or non-qualified distributions.
- If the distribution is a qualified distribution, the early distribution tax does not apply.
- The early distribution tax applies only to those distributions that are subject to income tax.
Also, because all qualified distributions from Roth 401ks are tax free, they are also exempt from the early distribution tax as well.
What is a “Qualified Distribution?”
A “qualified distribution” from a Roth IRA is excluded from gross income. To be qualified, a distribution must satisfy both of the following requirements:
- A distribution must not occur within 5 years after the first Roth IRA contribution was made by the taxpayer or the taxpayer’s spouse.
- The distribution must be made after the account owner reaches age 59 1/2 or becomes disabled.
Are You Required to Take Distributions From Your Roth 401k?
Yes, the required distribution rules that force you to begin taking money out of your retirement plans and Traditional IRAs during your lifetime also apply to Roth 401k’s.
If you have left over money in your Roth 401k after your death, the distributions will be directed to your beneficiaries.
Note: The rules for a Roth 401k plan are different from those for a Roth IRA. If you have a Roth 401k, you must begin taking distributions from the account when you reach age 70 and 1/2, or after you retire, whichever comes first.
How Should a Solo 401k Plan Trustee Administer a Plan With Roth Contributions?
A trustee of a Solo 401k plan with a qualified Roth contribution program must establish separate accounts including only designated Roth contributions and “earnings properly [allocated] to the contributions”.
Also, the plan administrator must maintain separate records for these accounts.
Since distributions from accounts containing elective deferrals are included in the distributees’ gross income, while distributions from accounts containing designated Roth contributions are generally excluded from gross income, an employee’s designated Roth contributions cannot be grouped with elective deferrals.
Note: Forfeitures may not be allocated to Roth accounts.
That’s all for our FAQ on the Roth option. If you have any questions about your Solo 401k plan, contact Royal Legal Solutions now. We’re happy to help with any concerns you may have.