Removal of Allocation Rule for Disbursements from Designated Roth Accounts to Multiple Destinations, 26 CFR Part 1, 81 Fed. Reg. 31165 (May 18, 2016)
The IRS has finalized regulations eliminating the rule that required simultaneous Roth distributions to multiple destinations to be treated as separate distributions for tax purposes. Under that rule, pretax amounts had to be allocated pro rata to each separate distribution. In Notice 2014-54, the IRS changed the tax basis allocation rules for simultaneous distributions, and at the same time, proposed a conforming amendment to the Roth regulations (see our Checkpoint article). (The basis allocation issue arises in 401(k) plans that permit Roth (or after-tax) contributions.) Under the notice, simultaneous distributions to multiple destinations (such as a pre-tax IRA and a Roth IRA) are treated as a single distribution for purposes of the allocation rule. The pre-tax amount—that is, earnings in a nonqualified Roth distribution—is first assigned to any direct rollovers and then to 60-day rollovers; any remaining pre-tax amount is includible in income. If the pre-tax amount is less than the total amount distributed for a type of rollover, the participant can direct the allocation of the pre-tax amount among those rollovers before the distribution is made. Notice 2014-54 was generally effective January 1, 2015, but a transition rule authorized its earlier application to distributions made on or after September 18, 2014.
The final regulations apply the same changes to the Roth account regulations, deleting the separate treatment rule and adding the transition rule outlined in the notice, but with a one-year delay. Though worded differently from the proposed regulations, substantively the final regulations are the same as the proposed, except for the one-year delay in applicability to January 1, 2016. The final regulations provide that the separate treatment rule applies to distributions made before January 1, 2016, except for those that chose not to apply the separate treatment rule for distributions made on or after September 18, 2014.
EBIA Comment: There is nothing new here other than conforming the Roth regulations to the simultaneous distribution rule announced in Notice 2014-54 and providing an additional year during which individuals could choose whether to treat multiple distributions as one distribution or multiple distributions for tax purposes. As a reminder, the notice and these final regulations do not allow distributions to avoid the tax allocation rules entirely; the “single distribution” that is deemed to occur at the time of simultaneous distributions remains subject to the allocation rules under Code § 72(e)(8). The notice and regulations merely offer some flexibility to determine where the pre-tax and after-tax amounts will go. For more information, see EBIA’s 401(k) Plans manual at Sections VIII.E (“Roth Contributions: Designated as After-Tax”), XIV.J.1.d (“Nonqualified Distributions of Designated Roth Contributions”), and XIV.J.3 (“Basis Allocation Rules for Distributions Made to Multiple Destinations”).
Contributing Editors: EBIA Staff.