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Question: I have a 60 year old client with a designated Roth account in a 401K plan.  The client is entitled to take a distribution from that account, and wants to roll it over into a Roth IRA.  What are the tax consequences of doing so?

Answer: The client is entitled to do a tax-free rollover of a designated Roth account distribution to a Roth IRA either by direct rollover or 60 day rollover.

Distributions from a designated Roth account are completely tax-free if they are made after the taxpayer has reached age 59 ½ and the distribution is made after the end of the fifth calendar year after the calendar year containing the first designated Roth contribution.

If a rollover is made from a designated Roth account to a Roth IRA for a taxpayer that has never had a Roth IRA before, the taxpayer must wait another five year window before distributions from the Roth IRA are qualified.  If, on the other hand, the taxpayer made a regular Roth IRA contribution or conversion at least five years prior to the rollover of the designated account, the entire Roth account (including rollover) would be qualified.  All this assumes the taxpayer is already older than 59 ½.

If the designated Roth rollover amount is qualified, the entire amount of the rollover is added to the basis of the Roth IRA.  If the rollover amount is not qualified, only the taxpayer’s after-tax contributions to the designated Roth account would be added to the Roth IRA’s basis.

Basis is important with regard to the Roth IRA if distributions are nonqualified.  Nonqualified distributions are tax-free returns of basis first, and only then taxable to the extent of gain.

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