Starting in 2010, taxpayers can make rollovers from non-Roth retirement accounts to Roth individual retirement accounts (IRAs) without regard to the former $100,000 modified adjusted gross income (AGI) limit and (in 2010 only) can benefit from a special two-year averaging provision (the taxable portion of the rollover is taxed in 2011 and 2012). In light of the expected attractiveness of such a rollover, the IRS has issued Notice 2009-75 to address the federal income tax consequences of transferring eligible rollover distributions from qualified retirement plans to Roth IRAs.
Notice 2009-75, which applies to rollover distributions from qualified plans under IRC §§ 401(a) and 403(b), annuity plans under section 403(a), and eligible governmental plans under section 457(b), supplements regulations under section 408A, which were issued prior to certain legislative changes, and guidance in Notice 2008-30.
Before the Pension Protection Act of 2006, P.L. 109-280 (PPA), an eligible rollover distribution from an eligible employer plan not made from a designated Roth account could be rolled over to a non-Roth IRA and then converted to a Roth IRA. A taxpayer could not roll over eligible rollover distributions to a Roth IRA directly.
Section 824 of PPA amended the definition of “qualified rollover contribution” in IRC § 408A to allow the recipient of an eligible rollover distribution not made from a designated Roth account to roll over the amount of the distribution to a Roth IRA without first contributing that amount to a non-Roth IRA. As a result, under sections 402A and 408A, as amended by PPA, a rollover from an eligible employer plan (other than from a designated Roth account) to a Roth IRA essentially results in the same federal income tax consequences for a participant as a rollover to a non-Roth IRA followed immediately by a conversion to a Roth IRA.
Section 512 of the Tax Increase Prevention and Reconciliation Act of 2005, P.L. 109-222, removed the $100,000 modified AGI limit on rollovers from non-Roth accounts to Roth accounts. It also provided that if a taxpayer makes such a rollover in 2010, the distribution will be treated as having been made ratably over 2011 and 2012 unless the taxpayer elects to have the distribution included in income in 2010. The elimination of the modified AGI limit is permanent. However, special two-year taxation treatment is available only for 2010 rollovers.
To clarify and supplement the regulations under section 408A and guidance in Notice 2008-30, Notice 2009-75 provides the following rules.
Rollovers to a Roth IRA of distributions made from a designated Roth account: The amount rolled over is not includible in the recipient’s gross income, regardless of whether the distribution is a qualified distribution from the designated Roth account. No restrictions based on the modified AGI limitations and joint filing requirements would apply.
Rollovers to a Roth IRA of distributions not made from a designated Roth account: The amount that would be includible in gross income were it not part of a qualified rollover contribution is included in the recipient’s gross income for the year of the distribution. The amount included in gross income would equal the amount rolled over, reduced by the amount of any after-tax contributions that are included in the amount rolled over, as if the distribution had been rolled over to a non-Roth IRA that was the participant’s only non-Roth IRA and that non-Roth IRA had then been immediately converted to a Roth IRA.
Special rules relating to net unrealized appreciation under IRC § 402(e)(4) and certain optional methods for calculating tax available to participants born on or before Jan. 1, 1936, would not apply. For tax years beginning before Jan. 1, 2010, a rollover from an eligible employer plan not made from a designated Roth account is available only to a taxpayer whose modified AGI for the year of the distribution does not exceed $100,000 (and who, if married, files jointly). The $100,000 modified AGI limit and the requirement that a married recipient file a joint return do not apply to distributions made on or after Jan. 1, 2010. If an eligible rollover distribution made before 2010 is ineligible to be rolled over to a Roth IRA either because the recipient’s modified AGI exceeds $100,000 or because a married recipient does not file a joint return, the distribution can be rolled over into a non-Roth IRA, and the non-Roth IRA can be converted, on or after Jan. 1, 2010, into a Roth IRA.
The need for Notice 2009-75 is driven by the expectation that many high-income individuals will want to convert their non-Roth accounts to Roth IRAs in 2010. Prior to 2010, a $100,000 modified AGI income limit prevented conversion. The combination of lower defined contribution plan balances as a result of the market problems in 2008 and the expectation of higher tax rates in the future have led many taxpayers to plan to take distributions from their non-Roth plans (to the extent they can) and non-Roth IRAs and roll over the distribution amounts into Roth IRAs in 2010 (and pay the tax in 2011 and 2012).
Stu Sirkin is with Ernst & Young LLP in Washington, D.C.
This article originally appeared in the January 2010 issue of The Tax Adviser, the AICPA’s monthly journal of tax planning, trends and techniques. AICPA members can subscribe to The Tax Adviser for a discounted price. Call 800-513-3037 or e-mail email@example.com for a subscription to the magazine or to become a member of the Tax Section.