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The SECURE 2.0 Act of 2022 (SECURE 2.0) allows 401(k) participants to designate their matching or nonelective contributions as Roth contributions when allowed by their plan. Prior to SECURE 2.0, only elective deferrals could be designated as Roth. The change took effect on December 29, 2022, but key implementation details were unclear until the IRS published Notice 2024-02 on December 20, 2023. 401(k) providers and payroll companies are currently adapting their systems to properly administer Roth employer contributions based on the recently clarified rules.
Interested employers should be able to allow Roth employer contributions sometime this year. Here’s what you need to know to decide whether the contributions are a good fit for your plan.
Background
Prior to SECURE 2.0, 401(k) participants could only designate elective deferrals as Roth. Notice 2024-02 distinguishes these Roth contributions as “designated Roth elective contributions.” SECURE 2.0 allows participants to designate employer matching contributions and nonelective contributions as Roth contributions. Notice 2024-02 distinguishes these Roth contributions as “designated Roth matching contributions” and “designated Roth nonelective contributions.”
Any matching or nonelective contribution allowed by a 401(k) plan can be designated as Roth, including both safe harbor and discretionary contributions.
Contributions are Optional, Not Mandatory
Like designated Roth elective contributions, employers have no obligation to add designated Roth matching and nonelective contributions to their 401(k) plan. Further, Notice 2024-02 allows employers to add designated Roth matching or nonelective contributions to a 401(k) plan that does not allow designated Roth elective contributions.
Contributions Are Subject to Same General Rules
Treas. Reg. § 1.401(k)-1(f) lists the general rules that apply to Roth contributions. Notice 2024-02 explains how these rules apply to designated Roth matching and nonelective contributions:
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- Matching and nonelective contributions must be designated as Roth before the contributions are made.
- Employees must have an effective opportunity to make (or change) an election to make designated Roth matching and nonelective contributions at least once during each plan year.
- Employers cannot exclude Roth matching and nonelective contributions from the employee’s gross income.
- The matching and nonelective contributions must be held in a separate designated Roth account.
Contributions Must Be Fully Vested
401(k) plans often subject matching and nonelective contributions to a vesting schedule. Under Notice 2024-02, matching and nonelective contributions must be fully vested at allocation time to be designated as Roth. Employees cannot designate a partially vested matching or nonelective contribution as Roth.
Contributions are Subject to Special Taxation and Reporting
Notice 2024-02 sets forth the taxation and reporting rules for designated Roth matching and nonelective contributions. These rules include:
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- Contributions are taxable income for the year allocated, even when the contributions are considered annual additions for the prior year.
- Contributions are not subject to federal income tax withholding, FICA taxes, or FUTA taxes.
- Contributions must be reported as an in-plan Roth rollover on Form 1099-R.
Contributions Are Subject to the Same Rollover Rules
Roth matching and nonelective contributions can be rolled over to another designated Roth account or to a Roth IRA just like designated Roth elective contributions.
Contributions Are Not Compensation
All 401(k) plans must define the compensation to be used when allocating employee and employer contributions to participants. This definition is commonly called “plan compensation.” Most 401(k) plans use W-2 or 3401(a) wages for this purpose. Notice 2024-02 made it clear that W-2 or 3401(a) wages do not include designated Roth matching and nonelective contributions.
Contributions Will Eventually Require a Plan Amendment
Employers can allow their 401(k) participants to designate their matching or nonelective contributions as Roth contributions as soon as their 401(k) providers and payroll companies give the go ahead. However, the change will eventually require a formal plan amendment. In Notice 2024-02, the IRS extended the amendment deadline from the last day of the 2025 year to December 31, 2026.
Will the Contributions be Popular?
Designated Roth matching and nonelective are not subject to the 402(g) limit that applies to designated Roth elective contributions. Instead, employers can allocate up to the 415(c) limit to employees assuming the allocation can pass nondiscrimination testing. The higher limit should make Roth designated Roth matching and nonelective popular with 401(k) plans whose participants want to make annual Roth contributions that exceed the amount possible with designated Roth elective contributions alone.
Plans with participants who employ the mega backdoor Roth strategy are probably a slam dunk. The strategy requires a multi-step process for individuals to make Roth contributions up to the 415 limit annually. Roth designated matching and nonelective contributions offer a more direct path.
However, all employers should weigh the pros and cons of designated Roth matching and nonelective contributions for their 401(k) plan. An experienced 401(k) provider can make this analysis easy.
