What Is a 408a Plan and How Does It Work?
Understand the mechanics of a Roth IRA (IRC Section 408a), from its after-tax funding structure to the specific rules governing tax-free distributions.
A “408a plan” is the common name for a Roth Individual Retirement Arrangement (IRA), established by Section 408A of the Internal Revenue Code. Unlike traditional retirement accounts, a Roth IRA is funded with post-tax contributions, so you do not receive a tax deduction in the year you contribute. The main benefit is that the funds can grow free from federal taxes, and withdrawals during retirement are also tax-free, provided certain conditions are met.
Contribution Rules and Eligibility
Contributing to a Roth IRA requires earned income, such as from wages or self-employment. The Internal Revenue Service (IRS) sets annual contribution limits. For 2025, the maximum is $7,000 for individuals under age 50, while those 50 and over can make an additional “catch-up” contribution for a total of $8,000.
Your ability to contribute also depends on your Modified Adjusted Gross Income (MAGI). For 2025, single filers, heads of household, or those married filing separately who did not live with their spouse can contribute the full amount if their MAGI is below $150,000. Contributions are phased out for a MAGI between $150,000 and $165,000, and disallowed for MAGI above this range.
For those married filing jointly or qualifying widow(er)s, the full contribution is allowed for a MAGI of $236,000 or less. The contribution amount is gradually reduced for a MAGI between $236,000 and $246,000 and is disallowed if MAGI exceeds $246,000. If your income is in a phase-out range, the amount you can contribute is reduced based on a specific IRS formula.
Understanding Withdrawals
Withdrawals from a Roth IRA follow a specific order of operations. The first funds withdrawn are always your direct contributions, followed by any amounts converted from other retirement accounts. The last funds to be withdrawn are the investment earnings. This ordering rule is important because your direct contributions can be withdrawn at any time, for any reason, without being subject to taxes or penalties.
For investment earnings to be withdrawn tax-free and penalty-free, the distribution must be “qualified.” This requires satisfying the 5-year holding period, which starts on January 1 of the year of your first contribution. The withdrawal must also be for one of the following reasons:
- You reach age 59½
- You have a permanent disability
- A first-time home purchase (up to a $10,000 lifetime limit)
- The withdrawal is made by a beneficiary after your death
A withdrawal of earnings that does not meet these criteria is considered a “non-qualified distribution.” In this case, the earnings portion of the withdrawal is subject to ordinary income tax and a 10% early withdrawal penalty. Some exceptions to the 10% penalty exist, such as using the funds for higher education expenses or certain medical costs. A feature of Roth IRAs is that owners are not required to take Required Minimum Distributions (RMDs) at any age.
Establishing and Funding Your Account
You can open a Roth IRA at various financial institutions, including brokerage firms, banks, credit unions, and automated investment platforms known as robo-advisors. To complete the application, you will need to provide personal information like your name, address, and Social Security Number.
You will also be asked to designate one or more beneficiaries who will inherit the account. Once open, you can fund it through several methods, such as a one-time electronic transfer from a bank account or by mailing a check. Many individuals set up recurring automatic contributions to ensure consistent investing over time.
Roth IRA Conversions
A Roth conversion is the process of moving funds from a pre-tax retirement account, such as a Traditional IRA, 401(k), or 403(b), into a Roth IRA. This strategy is available to anyone, regardless of their income level, making it an option for high-income earners who are ineligible to make direct contributions.
The total amount of pre-tax money you convert is added to your gross income for the year of the conversion and is taxed at your ordinary income tax rate. A large conversion could potentially push you into a higher tax bracket for that year, so planning is needed to manage the tax impact.
A separate 5-year holding period applies to each conversion. If you withdraw any converted funds before this 5-year period has passed, the withdrawal may be subject to the 10% early withdrawal penalty, even if you are over age 59½. This rule prevents using a conversion to circumvent early withdrawal penalties, as each conversion event starts its own 5-year clock.