2024: New Rules For Roth 401(k)s
An increasing number of employers are offering Roth 401(k)s. The landscape for these accounts changes on January 1st 2024. Here's what you need to know ..
The retirement savings landscape experienced a radical transformation with the enactment of the SECURE Act 2.0 at the end of 2022. This legislation introduced a wave of changes, setting new precedents for retirement savings programs.
It provided substantial adjustments to existing rules in an attempt to make retirement savings more accessible and beneficial to a wider demographic. The changes have implications for employers, employees, plan providers, payroll companies and the retirement industry as a whole.
Note 1: References in this article to 401(k) plans also apply to 403(b) and 457(B) plans, except where stated otherwise.
Note 2: These changes are not related to Mega Back Door Roths or any other after-tax contribution schemes, which are different from actual Roth 401(k)s.
Employer Matches
The biggest change is the provision that now allows participants in 401(k) plans to treat employer matching and non-elective contributions as designated Roth contributions if the plan design allows it.
In the past, employers who chose to do so had to match their employees' Roth 401(k) contributions only with pre-tax dollars, which had to be placed in a Traditional account. The contributions could possibly be subject to a multi-year vesting schedule, meaning that employees who separated from the company before the end of the schedule could forfeit some or all of the employer contributions.
The SECURE Act 2.0 now enables employers to make matching contributions directly to employees' Roth 401(k) accounts if they choose to do so. These contributions must be 100% vested immediately upon contribution (no vesting schedules allowed) and cannot be be excluded from gross income for income tax purposes.
It's important to note, however, that this feature is optional on the part of the employer who may choose to continue making pre-tax matches (since this way they can still impose a vesting schedule) or not even provide a company match at all.
Also vital to bear in mind is that implementation of this provision depends on the current capabilities of the employer’s payroll service and plan record keeper. Not all of them are logistically ready to make such changes from day one since the new provisions were only recently confirmed. This is especially true if there is no history of Roth 401(k) accounts in the plan and could result in a delay in implementation of these provisions for many employees even if the employer does in principle decide to go ahead and offer such an option.
SEP IRAs and SIMPLE IRAs
This new Roth feature is now also available for both elective deferrals and employer contributions to SEP IRA and SIMPLE IRA plans. Previously, only pre-tax (Traditional) contributions were permitted. Again, however, this will be dependent on the plan’s platform provider having the feature ready, in place and functioning which will not always be the case, certainly to begin with.
Required Minimum Distributions (RMDs)
The other big change is that assets in Roth 401(k) accounts will no longer be subject to pre-death required minimum distribution (RMD) rules.
RMDs are compulsory annual withdrawals that all workers must start taking from their retirement accounts, usually beginning the year they turn 73. This policy was designed to allow the government to collect its share of your retirement savings via taxes on these distributions while the plan participant is still alive.
Previously, despite being funded with after-tax dollars, Roth 401(k) account holders still had to take RMDs, unlike with money in Roth IRAs. To circumvent this rule, many people would choose to roll their Roth 401(k) balances over into a Roth IRA to avoid the RMD requirement. But now, Roth 401(k)s will no longer carry such RMD conditions, bringing them into line with Roth IRAs.
Catch-Up Changes
Eventually, deemed "catch-up" contributions, will be required to be on a Roth basis for participants earning over $145k in the previous year (this rule does not cover "special catch-up" contributions to 403(b) or governmental 457(b) plans). I talked about this change in this article.
The long-standing fixed $1,000 catch-up contribution limit for Traditional and Roth IRA participants aged 50 and older will now be annually adjusted for inflation.
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