Are you considering converting your traditional (pretax) solo 401k to a Roth solo 401k (designated Roth account) in 2020? If you are considering this important decision, here are key items to know.
The 2020 December 31 Deadline
The deadline for a 2020 in-plan conversion is December 31, 2020. This means that the funds and/or assets must be deposited from the solo 401k pretax bank/brokerage account to the Roth solo 401k bank/brokerage account by 12/31/2020 It is important to understand that you do not have until your business tax return filing due date plus timely filed business tax return extension to process an in-plan conversion for a prior year, as you do for making solo 401k annual contributions. Don’t forget that your solo 401k provider may need more time than you think to complete the conversion including assisting in opening the Roth solo 401k bank or brokerage account if that has not yet been done. Waiting until the last minute can be a nail biter.
In-plan Roth solo 401k conversion of pretax funds are subject to taxes, and the gains on amounts converted from the voluntary after-tax solo 401k account are also subject to federal taxes while the basis is not. Your roth 401k conversion income will increase your ordinary income for 2019 – potentially causing the loss of exemptions, credits tax deductions, taxation of Social Security, and increased premiums for Medicare Part B and Part D premiums – but this only happens for the year of the conversion. The trade-off is that all future qualified distributions from your Roth solo 401k will be distributed completely tax-free.
Reasons to Process a Conversion
Should you convert solo 401k funds to the Roth solo 401k bucket? Some factors in favor of converting include not needing your money soon, or even at all and expecting your future tax rates to be higher. Being younger can favor conversion as younger people generally are in a lower bracket, have not yet accumulated large sums in their solo 401k, and have long retirement savings timelines to work with.
Reasons not to Processing a Conversion
Conversion may make sense for some but is not for everyone. Why may you not want to process an in-plan solo 401k conversion? Conversion may not be for you if:
are older and will need the money soon;
you think you will be in a lower tax bracket at retirement; and
not having available, non-retirement assets to pay the tax due on the in-plan solo 401k conversion.
No Do Over
Just like Roth IRA conversions, you cannot change your mind once the in-plan solo 401k conversion has been processed. To learn more about the in-plan Roth solo 401k conversion rules, VISIT HERE.