In-Plan Roth Rollovers: Taxes, Rules, and Process

An in-plan Roth rollover is a transaction within an employer-sponsored retirement plan, such as a 401(k) or 403(b), that allows a participant to move funds from a traditional, pre-tax source into a designated Roth account. The purpose is to convert retirement savings that would be taxed upon withdrawal into savings that can grow and be withdrawn tax-free. This process involves an immediate tax consequence in exchange for future tax benefits.

This type of rollover is distinct from moving funds to a Roth IRA, as the money remains within the same employer plan. The primary motivation for an in-plan rollover is the strategic decision to pay income taxes on retirement funds now, assuming one’s tax rate may be higher in retirement. By doing so, all future qualified distributions from the designated Roth account, including all subsequent earnings, are received free of federal income tax.

Eligibility and Qualifying Funds

The ability to perform an in-plan Roth rollover depends on the employer’s retirement plan provisions, as the plan document must explicitly permit such transactions. Before allowing these rollovers, a company must first amend its plan to permit designated Roth contributions. Eligibility is extended to active employees, but plan rules may also allow former employees with a balance in the plan to execute one. A requirement for any funds to be moved is that they must be fully vested.

Employee Pre-tax Contributions

The most common source for an in-plan rollover is an employee’s own pre-tax deferrals. These funds, contributed directly from a paycheck before taxes, are always 100% vested. Because these amounts and their earnings have never been taxed, they are fully eligible for conversion.

Vested Employer Contributions

Employer contributions, such as matching funds or profit-sharing, are often subject to a vesting schedule that dictates when an employee gains full ownership. Only the vested portion of these employer-provided funds can be rolled over. For example, if an employee has $10,000 in employer matching funds but is only 60% vested, just $6,000 is eligible for conversion.

Tax Implications of the Rollover

The main consequence of an in-plan Roth rollover is the immediate tax liability. The entire amount being rolled over, including both contributions and any investment earnings, is added to your ordinary income for the tax year in which the rollover occurs. For instance, if you roll over $50,000 from your traditional 401(k) to your Roth 401(k), your taxable income for that year will increase by $50,000 and be taxed at your marginal tax rate.

You should anticipate this increased income, as it could push you into a higher tax bracket for the year. This tax impact is the direct trade-off for the benefit of tax-free qualified withdrawals in retirement.

A decision in this process is how to pay the income tax that results from the rollover. One option is to pay the taxes using funds from outside your retirement plan, such as from a savings account. This approach allows the entire rollover amount to be deposited into the Roth account, maximizing the principal that can generate tax-free growth.

The alternative is to have taxes withheld directly from the rollover amount, but this has drawbacks. The money withheld is not rolled into the Roth account, reducing the amount that benefits from tax-free growth. Furthermore, if the participant is under age 59½, the amount withheld for taxes is treated as an early distribution and could be subject to a 10% early withdrawal penalty on top of the ordinary income tax.

The Rollover Process

Before initiating a rollover, you must determine the exact dollar amount you wish to convert, which can be your entire vested pre-tax balance or a partial amount. You must also decide how you will handle the resulting tax liability, either by paying from an external account or having taxes withheld from the rollover.

Next, you must formally initiate the request with your retirement plan administrator. This is often done through the plan’s online portal or by contacting the administrator for the necessary paperwork, called an “In-Plan Roth Rollover Form.” On this form, you will specify the amount to be rolled over and your tax withholding election.

After you submit the form, the plan administrator will process the transaction by moving the cash value to the designated Roth account. You will receive a confirmation statement showing the details of the transaction. In the calendar year following the rollover, you will receive Form 1099-R to report the taxable income on your federal tax return.

Post-Rollover Account Rules

Once funds are in the designated Roth account, they are subject to specific rules for withdrawals. For the earnings portion of a distribution to be a “qualified distribution” and thus tax-free, two conditions must be met. The account holder must be at least 59½ years old, and a five-year waiting period must be satisfied. This five-year clock begins on January 1 of the year the first contribution or rollover was made to the plan’s designated Roth account.

For example, if you perform an in-plan rollover during 2024, the five-year period begins on January 1, 2024, and ends on December 31, 2028. If you are over age 59½, any withdrawal of earnings after that date would be tax-free. This rule applies only to the earnings generated after the rollover, as the converted principal can always be withdrawn tax-free.

A separate five-year rule applies to avoid a 10% penalty on certain distributions. If you are under age 59½ and take a distribution from your rollover funds within five years of the conversion, the taxable portion of that conversion may be subject to the 10% early withdrawal penalty. This is often called a “recapture” rule, and each conversion has its own five-year holding period for this purpose.