Q. I have a deferred compensation plan with my employer which only I contribute to. I would like to know if I decide to roll it over to a Roth account, would the tax liability be considered a capital gain tax or something else?
— Saver
A. We’re glad you’re asking before you make the move.
If your deferred compensation plan is a qualified plan, then it can be rolled over to a retirement account such as a Roth IRA or a traditional IRA or other qualified retirement plans.
Qualified deferred compensation plans are such as the ones offered by certain state or local governments or tax-exempt organizations, adhering to Internal Revenue Code 457 (b), said Deva Panambur, a fee-only planner with Sarsi, LLC in West New York and an adjunct professor of personal finance at Montclair State University.
“Contributions to qualified deferred compensation plans are tax-deferred and if rolled over to a Roth IRA, you will have to include the amount rolled over in your income for the year,” he said. “In other words, rollovers to a Roth will be taxed at ordinary income tax rates.”
Depending on the plan, you may be able to roll over the funds directly to a Roth IRA or you may have to first roll it over to a traditional IRA and then to a Roth IRA, he said.
The easiest way to execute these transfers is through a trustee-to-trustee transfer, where the funds are moved from one account to the other without you taking delivery of the funds, he said.
Alternatively, if you roll over the funds by first taking a distribution from your deferred compensation plan, you will have to put the funds into the IRA within 60 days to avoid having to pay taxes on it, he said.
“Your plan custodian will withhold 20% for taxes,” he said. “You will have to replenish this amount during the transfer to avoid getting taxed on the 20% and you can then reclaim this in your next tax return.”
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