New tax laws often include provisions that relate to retirement plans. The new tax law passed in December 2017 is no different. Often, the changes are not favorable to retirement plans, because Congress has a nasty habit of cutting back the tax benefits of retirement plan benefits and contributions to make up for tax cuts in other areas. But fortunately, this time retirement plans seem to have escaped any significant changes. Hooray! The only changes in the new tax bill that directly impact retirement plans are as follows:
Repeal of Recharacterization of Roth Conversions
If you make a contribution to a conventional IRA, you can change your mind and have it transferred to a Roth IRA, or vice versa. This is called a Roth conversion.
Under previous rules, if you change your mind again and want to reverse the Roth conversion, you can do that any time up until the due date of your tax return. This is called "recharacterization" of the conversion.
The new tax law repeals the rule allowing you to recharacterize conversions. So once you transfer your IRA contribution from a regular IRA to a Roth, that's it – there is no undoing the conversion.
Extension of Time to Roll Over Loan Offsets When an employee receives a distribution from a plan on termination of employment or plan termination, any outstanding loans are "offset" against the full account balance, and the net amount is distributed. For example, suppose Riley has a balance in her 401(k) plan of $30,000, and has an unpaid balance on her loan of $10,000 in addition. Riley would be taxed on her full account balance of $40,000, which includes the value of her outstanding loan being "offset" against her account, but only $30,000 is distributed.
In order to avoid having to pay tax on the value of the loan offset, Riley could either (a) repay the loan to the plan before the distribution is made, then roll it over to an IRA or another retirement plan; or (b) if she rolls over the balance to an IRA or another retirement plan before she repays the loan, Riley could repay the loan to the IRA or new plan within 60 days of the loan offset.
The new tax law extends the 60-day period mentioned above. Riley now has until the due date of the filing of her income tax return (including extensions) for the year the offset occurred to repay the loan.
Distributions to participants in Federal disaster areas A participant whose principal residence was located in a Federally-declared disaster area during 2016, and who sustained an economic loss due to the disaster, is eligible for certain tax relief on distributions up to $100,000 from retirement plans.
Pass Through Income The new law includes a deduction for "pass-through income" for certain types of businesses. Under the new tax law, these businesses could be placed in a situation where the income tax benefits of making contributions are curtailed by having a larger tax on the benefits when they are distributed. This is clearly unfair, and we believe it was unintended because the tax bill was rushed through Congress without full discussion. It may be advisable to wait for clarification or changes to the rule before making any decisions on this issue.
Please let us know if you have questions regarding any of these new rules. We'll be glad to review them with you!