Because last night's Senate bill (HR 8) has more new spending than new revenue, a new section was added permitting in-service conversions from a traditional 401(k) to a Roth 401(k).
A little more below the fold.
As the WSJ explained:
Of that $24 billion cost, $12 billion would come from a shift in the rules affecting workplace-based 401(k) plans. The change would allow plan holders to roll their 401(k) assets into a Roth IRA plan, which would require them to pay taxes up front on any gains in their plan. The benefit for investors would be that disbursements from Roth plans in retirement are tax free.
In effect, the move provides more up-front revenue to the Treasury, but potentially at the cost of revenue over the long term—as taxes paid when individuals make withdrawals from their 401(k) plans would likely be far greater.
This change was in
Section 902 of HR 8. While the Small Business Jobs Act of 2010 permitted rollovers from a standard 401(k) to a Roth 401(k), it was only permitted in certain circumstances: the account owner had to be at least 59.5, the age at which distributions from IRAs and 401(k)s are permitted without penalty
1. Now, however, taxpayers can always convert a tax-deferred 401(k) to a tax-free Roth 401(k) by rolling the former into the latter and paying the tax liability on the balance. That can be a pretty big tax hit, but after the funds are converted, there is no tax at all on either the earnings or the distributions. And, importantly, the longer the assets are in the Roth wrapper, the bigger the tax pony is for the account beneficiary.
So who does this benefit? Well, I don't think it'll benefit me very much. If I did a conversion, I'd pay tax on the rollover at my marginal rate. But I'd be prepaying my tax liability at my tax rate while I'm working versus the tax rate I'll pay when I'm in retirement. Since I don't anticipate having much in the way of income during retirement, I'd be paying a higher rate now versus a much, much lower rate in retirement. The upshot is that it may not make sense for me - or most people! - to do a conversion given that we'd be paying more now versus less (or none!) later.
So who does benefit? Well, people that will have a decent amount of income during retirement, which is to say wealthier people whose investments generate a good amount of income. And I fully expect them to take advantage of this tax pony.
Congress, of course, fully expects and intends them to take advantage of it: they'll take in a good slug of revenue in the next few years as people convert their accounts and pay the associated tax liability. The loss to the Treasury, on the other hand, won't manifest until those taxpayers start to retire, which could be many decades from now and is well beyond the 10-year horizon for budget scoring.
1 There are a few other circumstances under which it is permissible, such as death or disability. See IRS Notice 2010-84 (pdf) for more detail.
2 My wife's resolution for the new year is, apparently, to tell me to clean more, so I'll be checking back sporadically whenever I find time between chores, diaper-changing, etal.