In 2014, the IRS issued a seemingly obscure Revenue Notice (2014-54) to clarify how retirement plan distributions may be allocated when they consist of both pre-tax amounts and after-tax contributions.
Now, some financial advisors say that, with this ruling, the IRS has implicitly blessed a potentially attractive new planning technique, as follows:
-
If a 401(k) or 403(b) plan allows, the account owner makes after-tax contributions in excess of the annual elective deferral limit. This creates two accounts within the plan: pre-tax money (deferrals + all earnings) and after-tax contributions (excess contributions).
-
At a trigger event, the account owner takes a full distribution of both accounts, transferring 100% to personal IRAs. All of the pre-tax money is allocated to a Traditional IRA. All of the after-tax money is transferred to a Roth IRA.
-
Income tax can be deferred in the Traditional IRA until minimum distributions are required, and it can be deferred in the Roth IRA for life.
Thus, the strategy opens a back door to creating a Roth IRA for retirement.
Prior to the Revenue Ruling, each distribution had to be allocated pro rata into pre-tax and after-tax portions, with the after-tax portion ineligible for a transfer. The owner could have distributed the after-tax portion tax-free.
Recommended For You
But moving this amount into a Roth IRA would be subject to the annual contribution limit ($5,500 + $1,000 catch-up) and AGI limit on any contributions. The back door Roth works around these limits.
Another option is to make a plan-to-plan transfer as follows:
1) directly transfer pre-tax money into a new employer's regular 401(k);
2) directly transfer after-tax money into a new employer's after-tax 401(k) account, provided the new employer offers separate accounting and permits a plan-to-plan transfer.
Note: After-tax amounts may not be moved between plans through indirect rollovers (in which the owner receives cash).
If your clients are interested in this technique, the IRS Ruling is here.
An in-depth analysis of planning considerations using this technique by Michael Kitces is at his blog.
© 2025 ALM Global, LLC, All Rights Reserved. Request academic re-use from www.copyright.com. All other uses, submit a request to [email protected]. For more information visit Asset & Logo Licensing.
