401(k)s & Taxes: More Savers Can Now Convert to a Roth

401(k)s & Taxes: More Savers Can Now Convert to a RothThe fiscal cliff legislation has provided a little-noticed tax advantage for Americans with traditional 401(k) savings accounts, allowing them to assume tax liability now and avoid taxes on future gains or withdrawals.
The provision makes it possible to convert from a traditional account to a Roth 401(k), a newer retirement savings plan that makes you pay taxes on your money upfront.
Those who choose the Roth option would be taxed on the transferred funds, but not on monies withdrawn after retirement. Employees of any age can move pretax savings to a Roth account within their 401(k) plan at work.
Keep in mind, however, that the amount converted is taxed as ordinary income, which could amount to a big tax bill. Moreover, the higher income could push a taxpayer into a higher tax bracket, and an even bigger tax bill due by April.
Another reminder: workers who divide contributions between a regular 401(k) and a Roth 401(k), the company match is usually applied to the traditional 401(k).
Nonetheless, Congress projects that the Roth 401(k) fiscal-cliff provision will entice get enough savers to pay taxes now that it could raise $12.2 billion in revenue over the next 10 years, according to the Joint Committee on Taxation.
“We have been contacted by a few clients so far,” Alison Borland, vice president of retirement solutions and strategies at Aon Hewitt, which advises larger 401(k) plans, told The Wall Street Journal. “It’s starting to create a buzz.”
Prior to the fiscal-cliff deal, the law only allowed Roth 401(k) conversions for those with so-called “distributable” funds, a small subset of savers that included those 59 1/2 and older.
Under the new rule, a Roth conversion are available to anyone with a traditional 401(k) and an employer who offers a Roth account and conversion. Roth 401(k)s generally require mandatory retirement distributions past the age of 70½. But by rolling the assets into Roth individual retirement accounts, you can avoid that requirement.
In a separate rule announced in October by the Internal Revenue Service, employees can contribute another $500 per year to their 401(k)s or 403(b)s in 2013, with the elective deferral limit climbing to $17,500.
This is the second consecutive year that the IRS has bumped up the limit by $500 as a result of cost-of-living adjustments.
The so-called “catch-up contribution” limit for employees over 50 remains unchanged at $5,500. That’s above the $17,500 limit.

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