After-Tax Rollover Rules - Too Good to be True for Safe Harbor 401(k) Plans?
Tom Breitenbach
The IRS recent issuance of Notice 2014-54 has gained accolades from various investment advisors as an easy way to convert after-tax salary contributions to a qualified plan to Roth amounts once they become distributable. Claims that this guidance provides an opportunity for a “tax free asset growth strategy” or a “mega backdoor Roth contribution” may be an exaggeration for most plans.
The biggest obstacle to this “strategy” is the general availability, or lack thereof, for plans to have the ability to offer after-tax contributions as a plan feature. Most plans do not offer after-tax contributions, as there is limited interest due to the relatively-high current limits of pre-tax or Roth salary deferrals ($23,000 for those age 50 or above, and expected to increase by perhaps $1,500 next year). Perhaps the biggest obstacle in a plan’s offering after-tax contributions is because after-tax contribution availability to Highly Compensated Employees is strictly limited by the ACP test. Keep in mind that even if a plan is designed as a safe harbor 401(k) plan and generally has a “bye” for the ADP and ACP tests, if the plan offers after-tax contributions, the ACP test must be run independently for those after-tax contributions. If the Non-highly Compensated Employees are not making after-tax contributions, then the Highly Compensated Employees cannot.
From the investment and wealth-management perspectives, IRS Notice 2014-54 looks wonderful, but it may be too good to be true if you look at it from a plan operation perspective.
The IRS recent issuance of Notice 2014-54 has gained accolades from various investment advisors as an easy way to convert after-tax salary contributions to a qualified plan to Roth amounts once they become distributable. Claims that this guidance provides an opportunity for a “tax free asset growth strategy” or a “mega backdoor Roth contribution” may be an exaggeration for most plans.
The biggest obstacle to this “strategy” is the general availability, or lack thereof, for plans to have the ability to offer after-tax contributions as a plan feature. Most plans do not offer after-tax contributions, as there is limited interest due to the relatively-high current limits of pre-tax or Roth salary deferrals ($23,000 for those age 50 or above, and expected to increase by perhaps $1,500 next year). Perhaps the biggest obstacle in a plan’s offering after-tax contributions is because after-tax contribution availability to Highly Compensated Employees is strictly limited by the ACP test. Keep in mind that even if a plan is designed as a safe harbor 401(k) plan and generally has a “bye” for the ADP and ACP tests, if the plan offers after-tax contributions, the ACP test must be run independently for those after-tax contributions. If the Non-highly Compensated Employees are not making after-tax contributions, then the Highly Compensated Employees cannot.
From the investment and wealth-management perspectives, IRS Notice 2014-54 looks wonderful, but it may be too good to be true if you look at it from a plan operation perspective.
