The bill was signed in late September and the specifics of it aren't yet totally clear. For instance, the IRS hasn't decided exactly which portions of your 401(k) that were contributed by your employer can be converted and continue to grow tax-free. By next year, these kinds of bugs will be worked out. But if you wait until next year, you won't be eligible for a little goody that was part of this year's rules.
If you make the conversion this year, you can opt not to pay any 2010 income tax on this conversion, and you can split what you owe between 2011 and 2012. That could be a big benefit. And for people with limited savings outside their retirement accounts, this extra time to save could mean the difference between being able to make this conversion and not being able to make it.
Before you get too excited about this concept, first figure out if your employer will permit it and if you are eligible. Only about one-third of employers are currently offering Roth 401(k)s. If yours is among those that don't, the chances of them being willing and able to add this option by the end of 2010 are slim.
To covert, you have to be older than 59½ or have left assets in a former employer's 401(k) or 403(b) plan that you could potentially roll over. You also could roll assets that you have moved into your current employer's plan from a former employer's plan as long as they are being held separately. Another possibility for the under 59½ crowd is distributions from a defunct defined-benefit pension plan that have been rolled over into your 401(k) or 403(b) plan.
At this point, if you and your employer think you are eligible, the next step is to figure out how you are going to pay the federal and state taxes that will be due over the next three years. Selling some assets to meet these tax obligations and paying a penalty because you are younger than 59½ is a really dumb idea. In fact, being forced to sell assets in the account to pay taxes is a bad idea even if you don't face a penalty. But if you do the conversion this year, you can start squirreling money away immediately.
Finally, you have to figure out whether this conversion is a good retirement planning step for you. It's not a slam-dunk. We'll talk about that tomorrow.
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