Plan design Roth accounts for retirement tax planning

Key DC plan lever

There are many levers plan sponsors can pull to better adapt their defined contribution (DC) programs to an evolving, diverse workforce. Just as plan sponsors have promoted the importance of diversifying investment mixes, they should also encourage participants to diversify among pre- and post-tax contribution options.

Designated Roth accounts, a feature available in 401(k), 403(b), and governmental 457(b) plans, allow employees to allocate some or all of their elective deferrals as designated Roth contributions (which are included in gross income) rather than traditional, pretax elective contributions. Here’s what plan sponsors need to know about these accounts:

• Plan adoption and participant utilization of Roth accounts
• Ways to integrate Roth options more effectively into retirement plans
• Key Roth-related provisions from the SECURE 2.0 Act
• How in-plan Roth conversions can be an underused tax strategy

When is Roth savings a good idea?

Because everyone’s situation is different, it often makes sense for participants to contribute to both Roth and traditional pretax accounts during their careers. This approach provides a tax benefit today while also creating flexibility to manage taxes in retirement.

If a participant expects their tax rate to be higher in retirement, Roth contributions may make more sense. If they expect their tax rate to be lower in retirement, pretax contributions may be the better choice.

Should plan sponsors consider auto-enrolling into Roth accounts?

Inertia and limited education often lead participants to default to traditional pretax contributions instead of Roth accounts. Using automatic enrollment creatively can help address this.

Plan sponsors may hesitate to default participants into Roth contributions, but shifting the strategy could potentially reduce participants' tax liability in retirement. Working with your consultant and recordkeeper, review compensation data and determine whether a segmented default approach fits your plan’s demographics.

Plan sponsors, especially those with a predominantly younger or lower-wage workforce, may even consider segmenting their auto-enrollment approach tied to age, salary, or both. Here are some examples:

Participant segments who may benefit from Roth accounts

1. Early career, younger employees

• Likely to be in a lower tax bracket now than when they retire. With their highest earning years likely ahead of them, Roth contributions and any investment growth accumulate tax-free for decades (qualified distribution rules apply).
• May need to tap retirement savings for financial emergencies. While participants may potentially have to pay the 10% early withdrawal penalty on any investment earnings/growth, Roth contributions will not be subject to the penalty (unlike traditional pretax). Tax free withdrawals only apply to contributions (not earnings) and will still be subject to plan rules and IRS requirements.

2. Highly compensated employees

• Aren’t eligible for a Roth IRA. Unlike Roth IRAs, there are no income restrictions.
• Can afford to forgo some pretax benefits. Highly paid and/or older participants may want to consider splitting contributions between pretax and Roth or fully contribute to a Roth option, especially if they’ve accumulated a significant amount in pretax accounts.

3. Retired participants

• Want a flexible tax diversification strategy. Having both Roth and pretax accounts gives retirees greater flexibility in retirement to choose withdrawals based on their tax situation. This strategy can help reduce taxable income, potentially lower Medicare premiums, preserve eligibility for income-based deductions, and allow for larger withdrawals without creating a significant tax burden.
• Don’t want retirement distributions to impact taxation of Social Security. Social Security benefits become partially taxable once income exceeds $25,000 as a single filer or $32,000 as a married joint filer. Because Roth withdrawals aren’t counted as income for this calculation, they can help reduce, but not eliminate, the taxation of Social Security benefits. Using Roth savings strategically may also help keep taxable income lower and potentially reduce Medicare Part B premiums. 
• Want to preserve retirement savings assets for their heirs. A key estate planning benefit of a Roth distributions to beneficiaries is that they're generally tax-free, though still subject to distribution timing rules. Since there are no required minimum distributions (RMDs), participants can keep the money in the account as long as they wish and potentially pass more of their retirement savings to children or grandchildren.

Having the option to use money from a tax-free or a tax-deferred account, or a combination of the two, can help retirees better manage their taxable income.

Rothification of employer contributions

A provision in the SECURE 2.0 Act gives participants the ability to designate employer matching, non-elective, or profit-sharing contributions as Roth contributions. It’s an optional provision for employers and isn’t required.

For plans that offer this option, key points for participants include:

• Electing Roth treatment means paying taxes now, with tax-free qualified withdrawals of contributions and earnings later.
• Younger savers may prefer paying taxes now while in a lower tax bracket.
• The Roth election is irrevocable once applied, though future elections can be changed (at least once during the plan year).
• The Roth five-year holding rule still applies, but prior Roth contributions count toward the requirement.¹
• Plans may allow employer contributions to be split between pretax and Roth.
• Employer contributions must be fully vested to qualify for a Roth election.
• Taxes are owed in the year the contribution is allocated, and are reported on Form 1099-R.
• Because taxes aren’t withheld on these contributions, participants may want to increase withholding to avoid a surprise tax bill.

Roth catch-up for higher earners

Another provision in SECURE 2.0 requires catch-up contributions for higher-income employees to be designated as after-tax Roth.

• Effective January 1, 2026.
• Participants making less than $150,000 can continue making catch-up contributions to their regular pre‑tax account.
• Participants making $150,000 or more will have to put their catch-up dollars in a Roth account.

In-plan Roth conversions: Often-overlooked tax strategy

Among DC plans that offer a Roth option, 61% also allow for in-plan Roth conversions.²

Consider this: When an employee contributes their elective deferrals to a Roth option, employer match contributions are typically allocated on a pretax basis. Assuming a dollar-for-dollar match, a 50/50 tax diversification is now achieved.

Help participants with retirement readiness

Most plan sponsors offer a Roth option, making it easier for participants to diversify the tax treatment of their retirement savings. Younger participants may benefit from making Roth contributions early in their careers and shifting to pretax contributions as their income grows. Higher-income and/or later career participants can diversify by splitting contributions between pretax and Roth accounts. Although it may add administrative complexity, a segmented auto-enrollment strategy could help more participants reduce taxes in retirement and keep more of their savings.