Here’s another article from Forbes by our own Adam Bergman –
In the case of a 401(k) qualified retirement plan, when one reaches the age of 70 1/2, a 401(k) plan participant generally is required to start taking taxable withdrawals, also known as required minimum distributions (“RMDs”) from their 401(k) plan. The same RMD rules apply to pre-tax IRAs, SIMPLE IRAs and SEP IRAs. However, Roth IRAs, which consists of after-tax contributions and which can generate tax-free returns, do not require RMDs until after the death of the owner or his/her spouse. This exception to the RMD rules for Roth IRAs allow for some tax planning opportunities.
Not all employer sponsored 401(k) plans offer a Roth component. For employer sponsored 401(k) plans that offer a Roth option, eligible employees generally have the option to make pre-tax as well as Roth employee deferral contributions. Under 401(k) plan rules, a plan participant who reached the age of 70 1/2 would be required to take RMDs on both the pre-tax and Roth amounts. RMDs are the minimum amount one must withdraw from the retirement account each year. RMD withdrawals will be included in the plan participant’s taxable income except for any part that was taxed before (basis) or that can be received tax-free (such as qualified distributions from designated Roth accounts).
The RMD amount for any given year is the total account balance in the retirement account as of the end of the immediately preceding calendar year (12/31) divided by a distribution period as set forth by the IRS each year. Accordingly, if a plan participant nearing or over the age of 70 1/2 has a Roth 401(k) account in a 401(k) plan, the individual can directly rollover the Roth funds to a Roth IRA tax-free prior to 12/31 leaving the Roth 401(k) account with a zero balance and, thus, avoiding the RMD rules since a Roth IRA is not subject to the RMD rules.
For example, Jen is sixty-nine years old and has $185,000 in her employer sponsored Roth 401(k) plan. If Jen left the Roth 401(k) funds in the 401(k) plan she would become subject to the RMD rules at 70 1/2. However, if Jen elected to directly rollover the Roth 401(k) plan funds tax-free into a Roth IRA prior to 12/31, she would be able to avoid the RMD rules and, thus, gain the opportunity to continue increasing the value of the Roth account without having to take yearly withdrawals.
For a participant in an employer sponsored 401(k) plan who has a Roth account and is nearing or over the age of 70 1/2, understanding the Roth 401(k) and Roth IRA RMD rules and exceptions could help further advance the overall value of the Roth account as well as offer some potentially valuable estate planning opportunities.
For more information about the Roth 401(k), please contact us @ 800.472.0646.