Roth IRA/401k Questions: “Minnesota Specific*

[ownyourfuture]

My 401(k) & IRA’s are ‘conventional’ versions, but several friends/family have Roth versions. Today, while researching something else, I found this Q & A regarding a Roth 401(k)

Q: My company offers a Roth- 401(k) where I can contribute almost $20K per year. We live in Minnesota, so our state income tax rate is high also.
Would you recommend for me to contribute to this and pay the tax on that income now or take the tax break now and pay the tax down the road?

A: I like the Roth-401(k) option. Taxes are the key difference between a traditional 401(k) and a Roth-401(k). As you mention, contributions into the Roth-401(k) are made with after-tax dollars. The earnings on your investments are tax free at withdrawal in your retirement years. A wrinkle is that if there is an employer match it's made with pretax dollars into a segregated account. The match will be taxed at withdrawal.

Question(s) 1: The person who answers, states that the employer match $ will be taxed at withdrawal. Is the ‘match’ taxed by both the state & the fed ? Do all states tax the employer match ?

Later, I found this:

Roth IRAs are different from traditional IRAs. Contributions go into Roth IRAs after taxes, therefore any distributions are tax-free. However, Minnesota charges income taxes on earnings when withdrawn. Also, an early distribution penalty of 10 percent may apply. An account holder may take a tax-free distribution from a Roth IRA by meeting the five-year holding requirement & waiting until after age 59 1/2. Federal & state taxes do not apply to an early distribution that results from a beneficiary's death, disability or a first-time home purchase.
https://www.sapling.com/8775984/minnesota-early-withdrawal-retirement-plan

Question 2: Concerning the paragraph relating to Roth IRAs. In sentence 3, the author states that Minnesota charges income taxes on the earnings when withdrawn, but in sentence 5, states that the account holder may take a tax free distribution by meeting the 5 year holding requirement & waiting until after age 59.5 ?

I'm guessing, in Minnesota at least, even if be account holder meets the holding period & age requirements, they'll still have to pay Minnesota income taxes on the earnings ? If that's the case, a follow-up question would be, is this the same in every state ?

 

[jazz4cash]

I don't live in MN, but I found the conclusion unbelievable. The statements from the website are confusing and poorly worded. I found two sources when I googled Roth IRA MN that do not stipulate any special state tax for Roth withdrawals so long as they are "qualified". In MD there is no tax on Roth earnings if they are "qualified" since they don't show up in Fed AGI.

 

[Doribe]

I have a 401k Roth. I paid state and federal tax on the money when I earned it. There is a 5 -year holding period before I can make a withdrawal and it is subject to RMD.

There is no income tax on retirement income in my state, so I don't have that issue. How does MN tax retirement income?

 

[SevenUp]

Question(s) 1: The person who answers, states that the employer match $ will be taxed at withdrawal. Is the ‘match’ taxed by both the state & the fed ? Do all states tax the employer match ?

Question 2: Concerning the paragraph relating to Roth IRAs. In sentence 3, the author states that Minnesota charges income taxes on the earnings when withdrawn, but in sentence 5, states that the account holder may take a tax free distribution by meeting the 5 year holding requirement & waiting until after age 59.5 ?

A1. The employer match is treated as a traditional contribution. Withdrawals from traditional accounts are federally taxable. State laws on retirement account withdrawals vary.

A2. Note that whole article is about "Minnesota Taxes on Early Withdrawal of a Retirement Plan."

 

[gauss]

FWIW - A withdrawal from a Roth IRA is considered Qualified if the person is over age 59 1/2 AND has had any Roth IRA in his/her name for a least five years prior to the withdrawal. There are other ways to meet the Qualified withdrawal requirement, but these are the most common.

-gauss

 

[Stormy Kromer]

I also live in MN and you really need to talk to a tax expert who practices in MN to get an informed answer. The tax code in MN does not follow the Federal code in many, many places.


On my 2017 return I paid more income tax to MN than I did on the Federal return, seems crazy but it's true.


You should really talk to an experienced MN tax preparer before doing anything, I wouldn't want you to be surprised and send more to St Paul than you have to.

 

[bizlady]

I also live in MN and agree a tax professional, with knowledge in this area, is a good idea. That said, your circumstances will depend on your long term plan. From what little you say about yourself, I absolutely would pay the taxes now and add to the Roth if you are relatively young and expect to leave the money in place until retirement. It grows tax free and when retirement comes, you can draw from that and taxable accounts to balance taxable income brackets. You might also consider RMD's down the road.

Under current law, anything you take from your Roth once established will not be federal or state taxed. Not sure about the 5 year rules.....

 

[kgtest]

In my situation, my company offers the Roth 401k along with a 401k. I choose to max 401k and to do backdoor Roth conversions in lieu of contributing to the Roth 401k. My reasoning is that I would rather have the Roth IRA for legacy, than to be forced to withdraw come RMD. For that flexibility I do the backdoor conversion.

Either way you pay tax today with both investment vehicles, but the difference being you will be forced to withdraw from the 401k Roth the same time as your 401k/IRA whereas I will not be forced to with my Roth IRA conversions.

Make sense?

 

[Sunset]

I believe folks with ROTH 401K's can simply transfer them to Roth IRA's and then there is no RMD on the money at age 70.5

IF one does not have a Roth IRA, then open one today, and put $1.00 into it. That starts the 5 year clock, so later when a person opens a rollover Roth IRA, to put the Roth 401k into, there will already be a 5 year wait accomplished.

 

[kgtest]

I believe folks with ROTH 401K's can simply transfer them to Roth IRA's and then there is no RMD on the money at age 70.5

IF one does not have a Roth IRA, then open one today, and put $1.00 into it. That starts the 5 year clock, so later when a person opens a rollover Roth IRA, to put the Roth 401k into, there will already be a 5 year wait accomplished.

aha! Did not know that.

It looks like yes, you can rollover just as you would a 401k so the Roth 401k would rollover to Roth IRA. Can also to a Trustee to trustee from one employers Roth 401k rollover to another employers Roth 401k.

Learn something new everyday. I'm trying to figure out if this is for me.

Another reason I backdoor into VG is the flexibility of investments. I am somewhat limited in equities my employer plan. VG not so much.

 

[SevenUp]

Under current law, anything you take from your Roth once established will not be federal or state taxed.

You might have meant to say something else (e.g., "return of Roth contributions will not be taxed") but as written it's not correct.

See Fairmark Forum :: Retirement Savings and Benefits :: Roth IRA Rules - Table Approach for a summary table.

 

[ownyourfuture]

jazz4cash “The statements from the website are confusing and poorly worded” Agreed

Doribe “How does MN tax retirement income“ I’m the OP & that's what I was asking. I do know that Minnesota is one of only 4 states that taxes both SS & pension income. I believe they recently voted to exempt military pensions.

SevenUp “Note that whole article is about "Minnesota Taxes on Early Withdrawal of a Retirement Plan" I did make note of that. I could be misinterpreting it, but paragraph 4, concerning Roth IRAs, is kind of murky, & almost sounds as if “Minnesota charges income taxes on 'earnings' when withdrawn” even if all the requirements are met. As jazz4cash stated, “The statements from the website are confusing and poorly worded” But we still have the Q & A concerning a roth 401-k where the party that answers states “A wrinkle is that if there is an employer match it's made with pretax dollars into a segregated account. The match will be taxed at withdrawal” I'm not 100% certain but I believe I found that at MarketWatch, a credible site.

Stormy Kromer “On my 2017 return I paid more income tax to MN than I did on the Federal return, seems crazy but it's true”
Stormy, when it comes to taxes in Minnesota, anything is possible. I'd like to touch on that a little more, but it would get political, & you know how ERF feels about that. “You should really talk to an experienced MN tax preparer before doing anything, I wouldn't want you to be surprised & send more to St Paul than you have to” In the original post I mentioned that both my 401(k) are conventional, so what we're addressing here really doesn't concern me directly. But I do have friends & family that have roth 401(k)s & IRAs & I thought I could pass along to them, anything I learned here.

biz lady & kgtest: No disrespect intended, but you need to go back & read the original post. Thanks for the replies.

kgtest “Learn something new everyday” You got that right! I retired on June 6, 2015, & every time I think I have everything down pat, something pops up.

Like not realizing the extra stress caused by the fact that my cobra health insurance ran out on December 6 2016, & how hard it would be to convince the IRS that I did indeed sign up for another plan to cover the rest of that month. Or my self induced pain of making an IRA contribution for 2016, in December of that year & not realize until mid January of 2017, that I wasn't eligible to do since I had no earned income that year!

 

[bizlady]

You might have meant to say something else (e.g., "return of Roth contributions will not be taxed") but as written it's not correct.

See Fairmark Forum :: Retirement Savings and Benefits :: Roth IRA Rules - Table Approach for a summary table.

Pretty sure that in MN if the Roth is at least 5 years old and one is 59.5 or older at the time of withdrawal, it is a qualified withdrawal and not taxed. Minnesota has adopted legislation which conforms the state income tax code with the IRC as of the beginning of 1998. Consequently, state and federal provisions, including the technical corrections enacted July 22, 1998, should be identical.

 

[SevenUp]

Pretty sure that in MN if the Roth is at least 5 years old and one is 59.5 or older at the time of withdrawal, it is a qualified withdrawal and not taxed. Minnesota has adopted legislation which conforms the state income tax code with the IRC as of the beginning of 1998. Consequently, state and federal provisions, including the technical corrections enacted July 22, 1998, should be identical.

If "as a qualified withdrawal" is what you meant by "once established" then yes.

"Established" could also be interpreted as "opened" which is why I was confused.

 

[SevenUp]

SevenUp “Note that whole article is about "Minnesota Taxes on Early Withdrawal of a Retirement Plan" I did make note of that. I could be misinterpreting it, but paragraph 4, concerning Roth IRAs, is kind of murky, & almost sounds as if “Minnesota charges income taxes on 'earnings' when withdrawn” even if all the requirements are met. As jazz4cash stated, “The statements from the website are confusing and poorly worded”

If one reads all the statements in the linked article with the assumption "this applies to an early withdrawal (unless specifically noted otherwise)" it seems sensible. In other words,

"Also, an early distribution penalty of 10 percent may apply [to an early withdrawal].
An account holder may take a tax-free distribution from a Roth IRA by meeting the five-year holding requirement and waiting until after age 59 1/2 [at which point it is not an early withdrawal]."
​

But we still have the Q & A concerning a roth 401-k where the party that answers states “A wrinkle is that if there is an employer match it's made with pretax dollars into a segregated account. The match will be taxed at withdrawal” I'm not 100% certain but I believe I found that at MarketWatch, a credible site.

Yes, that is all correct. The employer match is treated similarly to what happens when you make a traditional 401k contribution: not taxed at contribution, not taxed as it grows, and taxed as ordinary income when withdrawn.

See https://www.irs.gov/retirement-plans/retirement-plans-faqs-on-designated-roth-accounts#10

 

[gauss]

I am not a resident of MN, but I do have access to MN state tax software.

I could try to mockup a return if you like. It may shed some light on this -- especially if there are specific scenarios that you are concerned with.

Note I have not been trained on MN tax law, so it is possible that this could add more confusion to the discussion.

-gauss

 

[ownyourfuture]

I am not a resident of MN, but I do have access to MN state tax software.

I could try to mockup a return if you like. It may shed some light on this -- especially if there are specific scenarios that you are concerned with.

Note I have not been trained on MN tax law, so it is possible that this could add more confusion to the discussion.

-gauss

I appreciate the offer, but that won't be necessary.
Thanks