The Roth 401(k): Pension Powerhouse Or Nonevent?

The new investment vehicle could change the way employees save for retirement. Or it could be short-lived.

Whether companies decide to add the new Roth 401(k) plan design feature to their 401(k) plan depends on how much they're willing to invest in a program that may not be around for more than five years.

The Roth 401(k) feature is a provision of the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA) that went into effect on Jan. 1 of this year. Participants in plans that offer the feature may make contributions on an after-tax basis, and qualified withdrawals of those assets and any earnings at retirement are tax-free. By contrast, a traditional 401(k) plan gives participants an immediate tax break in the form of pretax contributions, but withdrawals at retirement are taxed as income. Perhaps the most important
element of the Roth 401(k) feature, however, is its built-in sunset provision. The feature will cease to be available on Dec. 31, 2010, unless Congress decides to extend the Roth provision.

In general, the treatment of Roth 401(k) contributions is similar to that of traditional 401(k) contributions except for their tax status when contributed. Employees may choose to make both Roth and traditional 401(k) deferrals throughout the year and even during the same pay period. However, the total of those contributions cannot exceed the annual dollar limit on individual 401(k) deferrals, which is $15,000 in 2006. Employer contributions are not eligible for Roth treatment; they must be made on a pretax basis.

Withdrawals from a Roth 401(k) are tax-free if they are made when the Roth account has been in place more than five years and the participant attains age 59 and one-half or dies or becomes disabled.