This 401(k) match change could have “unintended consequences” at tax time, experts say

If you’ve opted into your employer’s matching 401(k) Roth contributions this year, it could trigger a tax surprise without proper planning, experts say. 

Enacted in 2022, Secure 2.0 ushered in sweeping changes for retirement savers, including the option for employers to offer 401(k) matches in Roth accounts. These accounts are after-tax, meaning employees pay upfront taxes but growth and withdrawals in retirement are tax-free. Previously Roth 401(k) matches went into pre-tax accounts.

Roughly 12% of employers with 401(k) plans said they are “definitely” adding the feature and 37% are “still considering it,” according to a recent survey from the Plan Sponsor Council of America.

However, those new matching Roth contributions could have “unintended consequences” at tax time, according to Tommy Lucas, a certified financial planner and enrolled agent at Moisand Fitzgerald Tamayo in Orlando, Florida.

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“If you go this route, you’ll want to know that you’re basically getting extra income” and taxes aren’t automatically withheld, Lucas explained. 

“You’re increasing your adjusted gross income by taking this match as a Roth,” he said.

For example, let’s say your salary is $100,000 with a 6% employer match in 2024. If you designate your $6,000 employer match as Roth and you’re in the 22% federal income tax bracket, you could have an extra $1,320 in tax liability, according to Lucas.

“There’s probably something on top of that for state income taxes,” depending on where you live, he said.

Plus, you won’t see your employer’s matching Roth contribution reported on Form W-2, according to IRS guidance released late last year. Instead, you’ll receive Form 1099-R, which could be confusing, Lucas said.

If you’ve chosen your company’s Roth matches for 2024, you need to prepare for the extra income, said CFP Jim Guarino, managing director at Baker Newman Noyes in Woburn, Massachusetts. He is also a certified public accountant.

You can increase your federal and state withholdings with your employer or boost your quarterly estimated tax payments, he said.  

For example, if you expect to incur $1,320 more in federal taxes, you could divide that amount by your remaining 2024 paychecks and include that “extra withholding” on Form W-4 for your employer, Lucas said.

Of course, you’ll need to double-check that the change is reflected on future paychecks, he said.

“In either case, working with a trusted tax advisor would help to optimize overall tax planning and eventual tax reporting for the year,” Guarino added.