Roth 401(k) Plans

 

Advantages of having a Roth 401(k) Plan:

With a Roth 401(k) plan, employees can choose to defer some of their salary and invest it into their personal account in their employer sponsored 401(k).  Unlike a traditional 401(k) plan this deferred money is taxed before it enters the account. The earnings from your investments are not taxed by the federal government or by most state governments which is where the true benefit lies. A Roth arrangement can be added to a traditional 401(k) plan allowing employers to offer a traditional and a roth option. Employees may contribute more to this plan than under IRA plans and are permitted to choose their investments. Roth 401(k) plans, like traditional 401(k) plans allow for participant loans and hardship withdrawals which add flexibility for employees.

 

Who adopts a Roth 401(k) Plan?

Businesses of all sizes can establish a Roth 401(k) plan. Companies that want greater flexibility in contributions and also want to allow their employees to make contributions on their own will adopt a Roth 401(k) plan over a defined benefit plan or a stand alone profit sharing plan. Roth 401(k) plans are typically attractive to companies with a younger workforce. Employer contributions can be made in the form of a match which can be subject to a vesting schedule.

 

Highlights:

If you establish a Roth 401(k) plan, you:

• Can have other retirement plans.

• Can be a business of any size.

• Need to annually file a Form 5500.

 

Pros and Cons:

• Greater flexibility in contributions.

• Employees may contribute more to this plan than under IRA plans.

• Good plan if cash flow is an issue.

• Optional participant loans and hardship withdrawals add flexibility for employees.

• Need to test that benefits do not discriminate in favor of the highly compensated employees. This testing can be complicated.

• Additional withdrawal and loan flexibility adds administrative burden for the employer.

 

Who Contributes:  In a Roth 401(k) plan contributions are made through employee salary deferrals and/or employer contributions.  Employees are always 100% vested in their own contributions.  Employer contributions may be vested on a graduated vesting schedule.

 

Contribution Limits:
Employee - $16,500 in 2011.  If the employee is aged 50 and over, an additional “catch-up” contribution is allowed.  The additional contribution amount is $5,500 for 2011.

Employer/Employee – The lesser of 25% of compensation or $49,000 in 2011.

 

Filing Requirements:  Annual filing of Form 5500 is required.

 

Compliance Testing: Plan subject to annual non-discrimination testing.

 

Participant Loans:  Permitted.

 

In-Service Withdrawals:  Yes, but subject to possible 10% additional tax if under age 59-1/2.