As part of the Small Business Jobs Act of 2010 signed into law by President Obama on Sept. 27, 2010, 401(k), 403(b) and governmental 457(b) plans will be allowed to offer participants the option of rolling over non-Roth contributions to Roth accounts inside the same plan without having to take an actual distribution. While these participants will be required to report the in-plan rollover as a taxable distribution, the rolled over amount and additional earnings on that rollover amount will remain in the plan and will be treated as a Roth account eligible for later distribution on a tax-free basis.

If it already allows Roth contributions or is amended to allow Roth contributions, a Section 401(k) plan, Section 403(b) plan or governmental Section 457(b) plan may permit in-plan Roth rollovers:

  • if the plan is amended to explicitly permit in-plan Roth rollovers; and  
  • the amount rolled over inside the plan is immediately distributable.

For elective deferrals, an amount is immediately distributable if the participant is at least 59 ½ years of age. For matching and employer profit sharing contributions, other rules apply to determine whether the amount is immediately distributable.

If these two conditions are met, the portion of an employee’s (or surviving spouse’s) plan account that is not a Roth account is permitted to be “distributed” or rolled over inside the plan into a designated Roth account for that individual. However, a plan that does not otherwise have a designated Roth program is not permitted to establish designated Roth accounts solely to accept these in-plan rollover distributions. Also, the distribution to be rolled over must not be subject to any distribution restrictions under the terms of the plan.

If an employer decides to expand its distribution options beyond those currently allowed under its plan (such as by adding age 59 ½ in-service distributions) in order to allow employees to make in-plan rollovers, the plan may condition eligibility for such a new distribution option on an employee’s election to have the distribution directly rolled over to the designated Roth program within that plan.

In the case of a permitted in-plan rollover to a designated Roth account, the individual must include the amount of the rollover “distribution” in gross income in the same manner as if the distribution were rolled over into a Roth IRA. Thus the special rule for distributions from eligible retirement plans that are contributed to a Roth IRA in 2010 applies to these rollover contributions to a designated Roth account. Under this special rule, an individual is allowed to include the amount in income in equal parts in 2011 and 2012. For Roth conversions after 2010, the amount of the in-plan rollover distribution is taxable in the year of the distribution.

This new feature is optional for employers. Plans are not required to allow employees to make an in-plan rollover to a designated Roth account. If a plan allows an in-plan rollover to a designated Roth account, it must be amended to reflect this plan feature. The IRS will provide employers with a remedial amendment period that allows the employers to offer this option to employees (and surviving spouses) for distributions during 2010 and then have sufficient time to amend the plan to reflect this feature.