401K Rollovers, Where Should My Money Go?

We will actually cover the rollover in the next article, but to setup a foundation, we will cover 401k classifications in this article.

If you have a 401k, you may be curious as to the various income limits and classifications for your contributions. First, let's cover the classifications. The 401k money is classified as one of the following: 1) tax-deferred traditional personal contribution, 2) after-tax traditional personal contribution, 3) traditional earnings, 4) after-tax ROTH personal contribution, 5) ROTH earnings or 6) tax-deferred traditional employer contribution.

Most people contribute money into their 401k as tax-deferred traditional personal contributions (1). This money is sometimes matched by their employer as a tax-deferred traditional employer contribution (6). The money then grows, creating traditional earnings (3).

The combination of tax-deferred traditional personal contributions (1) and after-tax ROTH personal contributions (4) is limited to $17,500 for 2013 (if you are under 50). The combination of classifications 1) and 4) are commonly referred to as elective deferrals. Notice, that this limitation does not include after-tax traditional personal contributions, traditional earnings, ROTH earnings or tax-deferred traditional employer contributions.

The combination of all contributions, which is 1), 2), 4) and 6) is limited to $51,000 for 2013 (if you are under 50) and cannot exceed 100% of your salary. See taxes.about.com and www.forbes.com for further information.

You may also be wondering about the tax implications for each of these categories. Tax-deferred traditional personal contributions (1) and tax-deferred traditional employer contributions (6) are deductible, in effect, reducing the amount of money you make and have to pay taxes on. The difference between these two categories are the contributions limitations discussed above. After-tax traditional personal contributions (2) and after-tax ROTH personal contributions (4) are not deductible, in effect, meaning that you will pay taxes before making these contributions. The difference between these two categories is how the earnings are taxed, discussed in the next few sentences.

Traditional earnings (3) will be taxed when you withdraw the money while ROTH earnings (5) will not be taxed when you withdraw the money. In this situation, withdraw typically refers to retirement (and does not include rollovers).

See Can You Contribute to Both a ROTH IRA and a ROTH 401k? for additional information about ROTH 401k options. Also, continue reading The Deductible Traditional IRA, Non Deductible Traditional IRA and the ROTH IRA to see what happens to these classifications during a rollover.

This post was reposted from http://finlit.biz/retirement-2/401k-rollovers-where-should-my-money-go/, originally written on December 11th, 2013.