Employers offering designated Roth 401(k) or 403(b) contributions must create a separate payroll item in QuickPayroll from their traditional 401(k) or 403(b) payroll item.

Beginning in 2006, an employer’s 401(k) or 403(b) plan may permit an employee to designate some or all of their elective contributions under the plan as designated Roth contributions. This means a participant in a cash or deferred arrangement under a 401(k) plan or under a 403(b) salary reduction agreement that includes qualified Roth contributions may elect to make designated Roth contributions to the plan in lieu of elective deferrals.

Please be aware that this is not a new type of plan. Designated Roth contributions are a new type of contribution that can be accepted by new or existing 401(k) and 403(b) plans. This feature is permitted under a Code section added by the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA).

In order to do this, an employer’s plan must contain language that allows for these Roth contributions. IRS Notice 2006-44 provides a sample plan amendment for sponsors, practitioners, and employers (plan sponsors) who want to provide for designated Roth contributions in their section 401(k) plans.

Some important information to know:

• Designated Roth contributions are elective contributions that, unlike pre-tax elective contributions, are currently includible in gross income. If a 401(k) plan is going to provide for designated Roth contributions, it must also offer pre-tax elective contributions.
• A designated Roth account is a separate account under a 401(k) or 403(b) plan to which designated Roth contributions are made, and for which separate accounting of contributions, gains, and losses is maintained.
• The employee contributions to a Roth 401(k) will be required to be reported on the Form W-2 in box 12 with a code of AA.
• The employee contributions to a Roth 403(b) will be required to be reported on the Form W-2 in box 12 with a code of BB.
• Form W-3 will be affected because the amounts reported on the W-2s in box 12 with code AA or BB will need to be included in the total amount reported in box 12 of the W-3.
• Employers can make matching contributions on designated Roth contributions, however, only an employee’s designated Roth contributions can be allocated to designated Roth accounts. The employer’s matching contributions made for designated Roth contributions must be allocated to a pre-tax account, just as matching contributions on traditional, pre-tax elective contributions are.

If you offer such a program, you must create a separate payroll item for the Roth designated contributions. The reason is because contributions to the two types of plans are taxed differently. Creating separate payroll items helps ensure that QuickPayroll calculates your taxes correctly and helps QuickPayroll prepare your tax forms.

Important: Even after you create your separate payroll item, you will have to make manual adjustments to your 2006 Forms W-2 and Form W-3. (more)

Frequently Asked Questions

How do I know if this affects me?
You might be affected if all of the following apply to you:

• You offer a 401(k) or 403(b) traditional retirement plan that includes a qualified Roth contribution program allowing employees to place some or all of their elective deferrals into a Roth 401(k) or Roth 403(b) account; and
• At least one of your employees chooses to place some or all of their 401(k) or 403(b) elective deferrals into a Roth 401(k) or Roth 403(b) account.

What do I need to do?

1. Create a separate payroll item to track employee Roth 401(k) or Roth 403(b) contributions.
1. From the QuickPayroll Lists menu, click Payroll Items.
2. Click Payroll Item, and then click New.
3. On the Payroll item type screen, select Deduction, and then click Next.
4. On the “Name used in paychecks and payroll reports” screen, enter the name Roth 401(k) or Roth 403(b), depending upon which plan it is, and then click Next.
5. On the “Agency for employee-paid liability” screen, enter the name of your 401(k) or 403(b) plan vendor in the “Enter name of agency to which liability is paid” field, and then click Next.
6. On the “Tax tracking type” screen, select “None”, and then click Next three times.
7. On the “Gross vs. net” screen, select whichever is applicable to your plan. For many employers this will be “Gross Pay”. Then click Next and then Finish.
2. Add the Roth 401(k) or Roth 403(b) payroll item to the records of employees who want to make contributions into the Roth plan.
1. From the QuickPayroll Lists menu, choose Employees.
2. Double-click the name of the employee who wants to make Roth 401(k) or Roth 403(b) contributions.
3. Select the Payroll Info tab.
4. In the Additions, Deductions and Company Contributions table, change the amount next to the traditional 401(k) or 403(b) payroll item, to reflect the amount of contribution the employee now wants to make into the traditional 401(k) or 403(b) plan.
5. Add the new Roth 401(k) or Roth 403(b) payroll item to the Additions, Deductions and Company Contributions list: Click in the Item Name column, click the arrow to open the list of payroll items, and then choose the Roth 401(k) or Roth 403(b) payroll item.
6. Enter the amount of the employee’s contribution in the Amount column.
7. Click OK to save the information.
   
   Note: You may also enter in any limits that apply to the item in the Limit column. (maximum limits)
   
   
3. Pay your employees
   When you pay your employee, the Roth 401(k) or Roth 403(b) payroll item now appears in the “Other Payroll Items” list on the paycheck detail, and QuickPayroll deducts the corresponding amount from the employee’s paycheck.

Do I need to create a separate payroll item for my employer matching contributions on designated Roth contributions?
No. Employers can make matching contributions on designated Roth contributions, however, only an employee’s designated Roth contributions can be allocated to designated Roth accounts. The employer’s matching contributions made on account of designated Roth contributions must be allocated to a pre-tax account, just as matching contributions on traditional, pre-tax elective contributions are. Therefore, you will need to use the payroll item you created for employer matching contributions to the traditional 401(k) or 403(b) account.

Why will I have to make manual adjustments to the 2006 Forms W-2 and Form W-3 after I create this separate payroll item?
The reason is because you are creating a payroll item with a tax tracking type of “None”. This tax tracking type will not report the employee deductions for the Roth 401(k) or Roth 403(b) in box 12 of the Form W-2. According to the IRS 2006 Instructions for Forms W-2 and W-3, the employee contributions to a Roth 401(k) will be reported in box 12 with a code of AA and the Roth 403(b) will be reported in box 12 with a code of BB. This will affect the W-3 because the amounts reported on the W-2s in box 12 with code AA or BB will need to be included in the total amount reported in box 12 of the W-3.

The reason you want the payroll item created with a tax tracking type of “None” is to ensure that taxes are calculated correctly because the designated Roth contributions are after-tax deductions.

Will QuickPayroll provide any software or payroll updates in order to fully support these contributions on the 2006 Form W-2 and Form W-3?
No. QuickPayroll will only be providing the ability to manually enter codes AA and BB on an employee’s W-2 in the W-2 preview screen. In order to fully support the printing of the new 2 digit codes “AA” and “BB” in box 12 of Form W-2 and the functionality of box 12 of Form W-3, you must be using QuickPayroll Release 12 (R12) or later and tax table 20701 or later.

What is a Roth 401(k) or a Roth 403(b) plan?
The main difference between a traditional 401(k) or 403(b) plan and the Roth plans has to do with taxes. Employee contributions to traditional plans are made with pre-tax earnings. However, the contributions and any earnings are taxable when the employee later makes a “qualified distributions” from their 401(k) or 403(b) retirement account. Conversely, employee designated contributions to the Roth 401(k) or Roth 403(b) plans are made with after-tax dollars, and any “qualified distributions” of the contributions plus earnings would be completely tax-free.

Important: A Roth 401(k) and Roth 403(b) is not the same thing as a Roth IRA. For example, unlike a Roth IRA there are no income restrictions for participants to contribute Roth 401(k) deductions. However, all existing testing requirements under the 401(k) regulations will apply to both the Roth and the traditional contributions.

How do the maximum contribution limits affect employees who contribute to both a traditional 401(k) and Roth 401(k) plan; or a traditional 403(b) and Roth 403(b) plan?
The IRS says that the limits apply to the employee’s total contributions to both plans. For instance, for tax year 2006 the total combined employee contributions to a 401(k) [traditional or Roth] cannot exceed $15,000 for participants under age 50 and $20,000 for participants 50 or above. For 403(b) plans [traditional or Roth] employers should refer to their deferred compensation publication for limit information.

Where can I learn more about Roth 401(k) and Roth 403(b) plans?
Please review the following IRS documents.

• Final Regulations - Designated Roth contributions under 401(k)
• Proposed Regulation [REG-146459-05] - Designated Roth Accounts under Section 402A
• Designated Roth Accounts in 401(k) or 403(b) Plans
• Retirement Plans FAQs regarding Designated Roth Accounts

The information contained in this communication is meant to provide general information and is not intended to provide tax or legal advice. Always consult with your accountant or tax advisor if you have any questions about your particular situation. You may also need to consult your retirement plan administrator and plan documents.

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