3779 / What are the requirements of a Roth 401(k)?

Editor’s Note: Under the SECURE Act 2.0, employees may elect to have employer matching or non-elective contributions made on a Roth basis if the plan offers a Roth option starting with the 2023 tax year. The IRS has clarified that participants must be given the opportunity to make a Roth election at least once per year (presumably, that election could cover all employer-matching contributions made throughout the year).  The participant must be fully vested to make the Roth election (only allowing fully vested participants to elect Roth matching contributions will not be treated as a discriminatory plan feature).  The plan is still entitled to have a vesting schedule.  Contributions are subject to income tax in the year of contribution but are not subject to employment taxes.  Contributions are reported as in-plan rollovers in Form 1099-R.  A plan may also be permitted to allow only employer Roth contributions without also allowing employee Roth deferrals.¹

A Roth 401(k) feature combines certain advantages of the Roth IRA with the convenience of 401(k) plan elective deferral-style contributions. The IRC states that if a qualified plan trust or a Section 403(b) annuity includes a qualified Roth contribution program, contributions to it that the employee designates to the Roth account, although not being excluded from the employee’s taxable income, will be treated as an elective deferral for plan qualification purposes.² A qualified plan or Section 403(b) plan will not be treated as failing to meet any qualification requirement merely on account of including a qualified Roth contribution program.³

A qualified Roth contribution program means a program under which an employee may elect to make designated Roth contributions in lieu of all or a portion of elective deferrals that the employee is otherwise eligible to make.⁴ For this purpose, a designated Roth contribution is any elective deferral that would otherwise be excludable from the gross income of the employee, but that the employee designates as not being excludable.⁵ Final regulations set forth the following requirements for designated Roth contributions:

(1)    The contribution must be designated irrevocably by the employee at the time of the cash or deferred election as a designated Roth contribution that is being made in lieu of all or a portion of the pre-tax elective contributions the employee is otherwise eligible to make under the plan.