IRS Answers Questions on Taxability of Roth Conversions

In Notice 2009-75, the Internal Revenue Service provides guidance in the form of a Q&A on the tax treatment of eligible rollover distributions from qualified plans into a Roth IRA.

The guidance further clarifies that a qualified plan is a qualified plan described in § 401(a), an annuity plan described in § 403(a), a plan described in §403(b), or a governmental § 457(b) plan.

The IRS says that if an eligible rollover distribution from an eligible employer plan is rolled over to a Roth IRA and the distribution is not made from a designated Roth account, then the amount that would be includible in gross income were it not part of a qualified rollover contribution is included in the distributee’s gross income for the year of the distribution. In other words, the amount included in gross income is equal to the amount rolled over, reduced by the amount of any after-tax contributions that are included in the amount rolled over.

The guidance states that the special rules relating to net unrealized appreciation at § 402(e)(4) and certain optional methods for calculating tax available to participants born on or before January 1, 1936, are not applicable.

If an eligible rollover distribution made from a designated Roth account in an eligible employer plan is rolled over to a Roth IRA, the amount rolled over is not includible in the distributee’s gross income.

According to the Notice, before January 1, 2010, individuals with a modified adjusted gross income (MAGI) that exceeds $100,000, and individuals who are married and file a separate return, are not allowed to roll over a distribution from an eligible employer plan to a Roth IRA unless the distribution is made from a designated Roth account. However, at the end of 2009, both the MAGI limit and the separate return limit will expire.

A rollover distribution made before 2010 that is ineligible to be rolled over to a Roth IRA due to the income or filing status restrictions may be rolled over to a non-Roth IRA that can then be converted into a Roth IRA on or after January 1.

Notice 2009-75 is available here.