First, let’s cover the difference between after-tax money and Roth.
Both after-tax and Roth contributions are made with money that’s already been taxed. The difference is in how the earnings are treated.
The growth on after-tax money isn’t taxed until the funds are withdrawn from the retirement plan. When you withdraw it, you pay regular income tax on all of the earnings you’ve accumulated over the years. You don’t pay tax on the original contributions when withdrawn because they were already taxed when you made the contribution.
With Roth contributions, the earnings are never taxed as long as you meet certain requirements. So you are able to withdraw the contributions and earnings with no tax cost. Pretty nice, right?
After-tax money in IRAs
You get after-tax money in IRAs by making non-deductible IRA contributions. Contributions to IRAs are non-deductible if your income exceeds certain levels and you have access to an employer retirement plan. When you make a non-deductible contribution, you file form 8606 with your tax return to track the contribution. Your IRA custodian does not track this for you, so it’s important to maintain your own records by filing this form.
We’ve observed that sometimes when people change tax software or tax preparers, the record of prior years’ non-deductible IRA contributions is lost. You can still reconstruct these records by going back to the old tax returns. If you believe you’ve made non-deductible IRA contributions in the past but don’t have a current form 8606 with this year’s tax return, we’d encourage you to research this now. Without these records, you would pay taxes on the non-deductible contributions again when withdrawing the money — a serious bummer!
After-tax retirement contributions in 401ks
You can tell if you have after-tax money in a 401k by looking at your full statement. There is usually a section called “Activity by contribution source” or “Sources” or something else similar. You may also see a label that says “Post-1986 Cost Basis” or “After-tax cost basis.” Any of these labels are an indication that you have after-tax money in your plan.
Many employers don’t offer after-tax contributions, but enough do that it’s worth checking. If you can’t tell from your statement, you can call your plan administrator’s client service line and ask them if you have any after-tax contributions in the plan.
If you determine that you have after-tax funds in a 401k or IRA, then consider whether it’s beneficial for you to convert them to Roth. Here’s our blog post on the topic.