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Tax Ira Roth Tracking

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									             ROTH 401(k) FEATURE – ADDITIONAL QUESTION & ANSWER
                           (UPDATE TO ORIGINAL Q&A)
On December 30, 2005, the Department of Treasury and Internal Revenue Service (IRS) published final regulations
regarding Roth deferrals. The IRS clarified the following:

Q1.     Can a plan contain Roth deferrals only?
A1.     No, the final regulations provide that a 401(k) plan must also provide for pre-tax deferrals.


   ROTH 401(k) FEATURE – NEW QUESTION & ANSWER (Q&A) (September 2006)
    RE: PROPOSED ROTH DISTRIBUTIONS AND TAXATION REGULATIONS

      Special Note to Reader: Responses below have been based on Lincoln’s current interpretation of the
      Proposed Rules published by the Department of Treasury and Internal Revenue Service on January 25,
      2006. These proposed rules specifically address distribution and taxation rules of Roth deferral accounts.
      Attached is a link to the proposed rules: roth402a.pdf


                                     PART I
      DEFINITION OF QUALIFIED DISTRIBUTION FROM A ROTH DEFERRAL ACCOUNT

Q1.     What is a “qualified distribution” from a Roth deferral account? (Also refer to chart in Q&A 7)
A1.     Assuming a distributable event has occurred, a “qualified distribution” from a Roth deferral account occurs
        when both of the following requirements are met:

        •      Requirement #1: Roth deferral account has been in existence for at least five taxable years (“5-year
               tracking requirement”), and
        •      Requirement #2: The distribution requested is (1) due to death, (2) due to disability (see Q&A 3), or
               (3) after the participant has reached age 59½. Only one of these three events is necessary to satisfy
               Requirement #2.

               If both of these requirements are met, then the earnings portion of the distribution is tax free and is
               not subject to the additional 10% premature distribution penalty (distribution of Roth after-tax
               contributions are always tax-free).

               Note: A Plan’s definition of disability may differ from the definition of disability used in
               Requirement #2 above to determine if a distribution is a “qualified distribution.” Thus, in limited
               circumstances, a plan could permit a disability distribution from the Roth deferral account, but the
               earnings withdrawn could be taxable.

Q2.     What is the definition of disability for plan purposes?
A2.     A plan can use one of several different definitions of disability , such as:
                An inability to engage in any substantial gainful activity for which the participant is reasonably
                suited by reason of training, education and experience as determined by the Plan Administrator.
                The Participant being entitled to Social Security Disability Benefits.
                An inability to perform the normal duties for the employer as determined by the Plan
                Administrator.
                An inability to engage in any substantial gainful activity.

Q3.     What is the definition of disability for purpose of “qualified distributions”?
A3.     An individual may be described as disabled, for purpose of meeting the “qualified distribution” of a Roth
        deferral account if “he is unable to engage in any substantial gainful activity by reason of any medically


        October 2006                                           1                                         LLA0609-1227
                                                                                                          401(k) Q & A
      determinable physical or mental impairment which can be expected to result in death or to be of long-
      continued and indefinite duration.” This is the Social Security definition of disability.

Q4.   How is the 5-year tracking requirement calculated?
A4.   The five taxable year period begins on the first day of the participant’s taxable year (usually calendar year)
      during which the individual made their first designated Roth deferral. The period ends when five
      consecutive taxable years have been completed.

      For example, suppose an individual makes the first Roth deferral on March 1, 2006. The participant’s first
      taxable year is 2006. After the end of the 5th taxable year, December 31, 2010, the individual will have met
      the 5-year tracking requirement.

      Also see Q&A14 -- How is the 5-year tracking requirement affected when a direct rollover of a designated
      Roth deferral account to a Roth IRA occurs?

Q5.   If an individual makes Roth deferrals to two plans, how is the 5-year tracking requirement
      impacted?
A5.   Depending on the timing of the initial Roth deferral to each plan, the employee may have two different 5-
      year tracking dates.

Q6.   Are there certain distributions that will never be considered a “qualified distribution,” even if the
      employee meets the qualified distribution criteria?
A6.   Yes, the following types of distributions are never a “qualified distribution” (earnings on the Roth deferral
      account will always be taxable):
                        Return of contributions in excess of 415 limit ($44,000 for 2006);
                        Corrective distribution due to excess deferrals of pre-tax and designated Roth deferrals
                        ($15,000 for 2006);
                        Corrective distribution of excess contributions (ADP testing failure);
                        Deemed distribution (of outstanding loan in default and accrued interest);
                        Cost of life insurance; and
                        Hardships (although many within the retirement community debate this conclusion).


                                 PART II
DEFINITION OF NON-QUALIFIED DISTRIBUTION FROM A ROTH DEFERRAL ACCOUNT

Q7.   What is a “non-qualified distribution” from a Roth deferral account? (See chart below)
A7.   Assuming a distributable event has occurred, the distribution from a Roth deferral account would be
      considered “non-qualified” if the individual has not met both of the requirements noted in Part 1, Q&A 1 or
      the distribution is for one of the reasons listed in Q&A 6 above. The earnings portion of the distribution
      would be taxable and may be subject to the additional 10% premature distribution penalty.

      Example #1: Dan is 62 years of age and receives an age 59½ in-service withdrawal. The Roth deferral
      account has been in existence for less than 5 years. The withdrawal would be considered a “non-qualified”
      distribution. The earnings would be taxable. However, the additional 10% premature distribution penalty
      would not apply (participant’s age is 59½ or greater).

      If, however, Dan held the Roth deferral account for at least 5 years, earnings would not be taxable and the
      additional 10% premature distribution penalty would not apply (participant’s age is 59½ or greater).

      Example #2: Evan is 35 years of age and is taking a hardship distribution from his Roth deferral account to
      purchase a home for his family. The Roth deferral account has been in existence for 10 years. But the
      withdrawal will be considered a “non-qualified” distribution, and the earnings will be taxable because the
      hardship distribution can never be considered a “qualified distribution.” Because Evan is not 59½, the
      taxable earnings will also be subject to the additional 10% premature distribution penalty.


      October 2006                                           2                                        LLA0609-1227
                                                                                                       401(k) Q & A
      If, however, Evan were 60 years old, and the plan permits an in-service withdrawal after age 59½, the
      distribution could be made as an in-service withdrawal after age 59½. In this scenario, the earnings would
      not be taxable, and the additional 10% premature distribution penalty would not apply.

      Example #3: Jane is 45 years of age and is terminating on account of disability. Her disability meets the
      definition for disability for a Roth “qualified distribution.” The Roth deferral account has been in existence
      for 7 years. The distribution of her Roth deferral account, including earnings, will not be subject to either
      income tax or the additional 10% premature distribution penalty.

      The following chart provides a high level overview of qualified and non-qualified distributions. This chart
      does not address all exceptions to the additional 10% premature distribution penalty that might affect a
      qualified / non-qualified distribution. Exceptions include: substantially equal periodic payments, QDRO
      payment to alternate payee, IRS levy, and deductible medical expenses. Participants should seek individual
      tax advice from their personal tax advisors before taking any distribution.




                                                                                                   Is this a qualified distribution?
                        Has the Roth account been in existence for at least five taxable years AND is the distribution due to death, disability, or because the participant has reached age 59½.




                                             Yes                                                                                                        No
                This is a qualified distribution which means:                                                           This is a non-qualified distribution which means:
                            ▪ No tax on earnings                                                                                       ▪ Taxed on earnings
             ▪ No additional 10% premature distribution penalty                                                            (Distribution of Roth after-tax contributions are always tax free)
                 (Distribution of Roth after-tax contributions are always tax free)




                                                                                                                Does the additional 10% premature distribution
                                                                                                                                penalty apply?




                                                                                                 Yes                                                                                                        No
                                                                 ▪ If the participant has not attained age 59½ and is still employed, or                                                     ▪ If the participant is 59½ or older, or
                                                                           If the Participant does not meet another exception.                                               ▪ If the participant separates from service with the employer after
                                                                                                                                                                                                         attaining age 55.




                                   PART III
               PARTIAL DISTRIBUTIONS, IN-SERVICE DISTRIBUTIONS,
       HARDSHIP DISTRIBUTIONS AND LOANS FROM A ROTH DEFERRAL ACCOUNT

Q8.   What portion of an in-service distribution represents earnings tied to designated Roth deferrals?
A8.   An employee must be age 59½ or older, and the plan must permit the in-service distributions from the Roth
      deferral account. Assuming the same information for Dan previously described in Q&A 7, Dan requests an
      in-service distribution of $10,000 from his Roth deferral account. Dan’s Roth deferral account consists of
      $15,000 of designated Roth deferrals and $5,000 in earnings. The distribution represents a pro-rated
      amount of designated Roth deferrals and earnings ($10,000 X ($5,000/$20,000) = $2,500). The distribution
      represents $7,500 of designated Roth deferrals (nontaxable) and $2,500 earnings (taxable).

      If Dan held the account for at least 5 years, the distribution would meet the “qualified distribution”
      requirement and the $2,500 of earnings would be nontaxable.



      October 2006                                                                                          3                                                                                    LLA0609-1227
                                                                                                                                                                                                  401(k) Q & A
Q9.    Can an individual take a hardship distribution of only designated Roth contributions?
A9.    Due to the complex accounting required for a Roth hardship distribution, many employers have elected to
       not permit a hardship distribution from the Roth deferral account. However, if the plan permits hardship
       distributions from the Roth deferral account, the proposed regulations require that a portion of the hardship
       distribution contain a pro-rated share of earnings. Therefore (based on proposed regulations) the earnings
       portion will always be taxable.

       Example #1: Rachel, age 45, is eligible for a hardship withdrawal under a 401(k) plan. She has a total of
       $12,000 in designated Roth deferrals, the earnings tied to those deferrals are $3,000; thus the total
       designated Roth deferral account value is $15,000. Rachel requests a hardship withdrawal of $4,000. The
       Plan permits her to request the hardship distribution to come only from her Roth deferral account. The
       taxable portion of that distribution is $800 ($4,000 X ($3,000/$15,000) = $800). The nontaxable portion is
       $3,200. The record keeper will update Rachel’s account to reflect that (1) the basis is reduced by $3,200
       and (2) the amount available for future hardships is reduced by the full $4,000. Rachel will pay taxes on
       the $800 earnings and may be subject to the additional 10% premature distribution penalty.

       Example #2: Kathy started making the designated Roth deferrals in 2006. The year is 2011 and she is age
       59½. Even though Kathy has met the qualifying distribution rules all hardship distributions, based on the
       proposed regulations, would be non-qualified distributions. Thus, all earnings would be taxable. Since
       Kathy is age 59½, the additional 10% premature distribution penalty does not apply.

       If, however, the plan permitted in-service withdrawals at age 59½, Kathy could use that withdrawal
       alternative and obtain a “qualified distribution” (earnings would be nontaxable due to age and the 5-year
       tracking requirement).

Q10.   Can a loan be taken from a Roth deferral account?
A10.   Yes, a plan could be designed to permit loans to be taken from a Roth deferral account. However, given
       the complex accounting required for Roth deferral accounts, many employers have elected to utilize the
       Roth deferral account to determine the maximum loan amount available (the lesser of $50,000 or 50% of
       the vested account balance) but require that loans be taken from other non-Roth money sources.

Q11.   What are the tax consequences of defaulting on a loan originating from the Roth source?
A11.   If an individual defaults on a loan and a deemed distribution occurs, the proposed regulations provide that a
       deemed distribution is never considered a “qualified distribution” – even if the individual had met the
       qualifying distribution requirements. As a result, the portion of the outstanding balance that represents
       earnings is taxable.


                                         PART IV
                       ROLLOVERS FROM A ROTH DEFERRAL ACCOUNT TO
                       ANOTHER ROTH DEFERRAL ACCOUNT OR ROTH IRA

Q12.   Can an individual directly roll over Roth contributions to another eligible plan?
A12.   Yes, Roth deferral accounts from a 401(k) plan may be rolled directly to another 401(k) plan that maintains
       Roth deferral accounts. However, according to the proposed 401(k) distribution regulations, a rollover of
       Roth deferral accounts is not currently permitted between 401(k) and 403(b) plans. The Pension
       Protection Act of 2006 permits portability of Roth deferral accounts between “dislike” plans, 401(k) and
       403(b), beginning in 2007 and we expect that the final Roth distribution regulations will reflect this change.

Q13.   How does a direct rollover of Roth deferrals to another eligible plan impact the 5-year tracking
       requirement?
A13.   If a direct rollover is made from a designated Roth deferral account under one 401(k) plan to another plan’s
       designated Roth deferral account, the 5-year tracking requirement for the plan receiving the rollover begins
       on the first day of the employee’s taxable year for which the employee first had designated Roth deferrals
       made to the plan distributing the rollover, if earlier.


       October 2006                                          4                                        LLA0609-1227
                                                                                                       401(k) Q & A
       For example, suppose James joins the ABC Company’s 401(k) plan in February 2008 and elects to directly
       roll over his Roth deferral account from another plan. Previously, he worked for XYZ Company and made
       his first designated Roth deferral during 2006 to the XYZ Company’s 401(k) plan. The XYZ Company
       must report to the ABC Company the amount of the after-tax investment (basis) and the first year of the
       five year period. The ABC Company’s plan will recognize that designated Roth deferrals began in 2006
       and that the 5-year tracking requirement for James’ ABC Company’s Roth deferral account will be met
       after December 31, 2010.

Q14.   How is the 5-year tracking requirement affected when a direct rollover of a designated Roth deferral
       account to a Roth IRA occurs?
A14.   If the distribution is considered a “qualified distribution,” the total amount rolled into the Roth IRA is
       considered after-tax investment in the Roth IRA contract, or basis. While the individual received a
       “qualified distribution” from the retirement plan (maintained the Roth deferral account for 5 taxable years,
       and had a qualifying distributable event – death, disability or age 59½) a new five year clock begins in the
       Roth IRA account. Future withdrawals from the Roth IRA would come first from the basis (amount rolled
       in) and future contributions secondly from the earnings that accrue in the Roth IRA.

       If the distribution is a “non-qualified” distribution, the subsequent rollover represents basis (after-tax
       amount) and earnings subject to taxation, (except for the rollover). The Roth IRA custodian must maintain
       basis and earnings separately. A new 5-year clock begins in the Roth IRA.

Q15.   Can an individual, who takes a distribution in cash of a Roth deferral account, make an indirect 60-
       day rollover to a Roth IRA or another plan?
A15.   Yes, an individual can roll over the entire Roth deferral account, whether a “qualified distribution” or a
       “non-qualified distribution,” into a Roth IRA through an indirect 60-day rollover. However, only the
       taxable portion (earnings) of a non-qualified distribution may be rolled over via an indirect 60-day rollover
       to another eligible plan that maintains Roth deferral accounts. The 5-year tracking date does not carry over
       into the receiving plan or Roth IRA. Due to the complexity of accounting for indirect rollovers, many
       employers have elected not to permit indirect rollovers into their plans.

Q16.   Are partial rollovers of Roth deferral accounts permitted?
A16.   Yes, if an individual rolls over a portion of a distribution to a Roth IRA, the amount rolled over will come
       from the taxable portion (earnings) first, then after-tax investment (basis) second.

Q17.   Can an individual roll amounts from a Roth IRA into an eligible plan?
A17.   No, once contributions are made or rolled to a Roth IRA, the account can not be rolled back into an eligible
       plan.

Q18.   Is a designated Roth deferral account subject to force-out rollover rules?
A18.   A plan is required to allow participants to roll over any vested account balance that exceeds $200. In
       applying this rule, an individual that maintains both a pre-tax account and a Roth deferral account has two
       $200 limits.

       For example, Joe has a vested account balance consisting of $100 in pre-tax dollars and $120 in designated
       Roth deferrals. Generally, a plan would be required to allow a participant who had over $200 in his vested
       account balance to roll over the distribution. However, the two accounts are treated separately. Thus, the
       plan can cash out Joe’s two accounts without violating the rollover requirement.

Q19.   How does the automatic rollover provision apply with regards to a designated Roth deferral
       account?
A19.   The Roth deferral account is treated as any other portion of the participant’s vested account. Thus, if a plan
       provides that the vested account balance of $5,000 or less is distributed to an automatic IRA, then the
       portion of the account related to Roth deferrals must be placed in a separate Roth IRA.




       October 2006                                          5                                        LLA0609-1227
                                                                                                       401(k) Q & A
Q20.    Will Lincoln provide a Roth IRA to support force-out distributions of Roth deferral accounts?
A20.    Yes, Lincoln intends to have a Roth IRA available by the end of the fourth quarter of 2006. The Roth IRA
        will be similar to the Lincoln Small Accounts IRA. A separate $30.00 administrative fee will be deducted
        from the Roth IRA account ($7.50 deducted quarterly). Look for information regarding this Roth IRA in
        future newsletters (Delivering retirement plan news).

Q21.    Can I have different investment elections for pre-tax and Roth deferrals?
A21.    Due to systems limitations, it is not possible at this time.


           ROTH 401(k) FEATURE – RECENT DEVELOPMENTS (August 2006)
                    RE: PENSION PROTECTION ACT OF 2006
On August 3, 2006, the Senate passed H.R. 4, the Pension Protection Act of 2006 (“PPA” or “Act”). The House
passed it on July 28, 2006. It was signed by the President on August 17, 2006. The Act provides for several Roth-
related items:

             Permanency of Roth Feature – The Economic Growth and Tax Relief Reconciliation Act of 2001
             (EGTRRA) provided for the Roth contribution feature with a delayed effective date of the 2006 tax
             year and was scheduled to sunset along with other the EGTRRA provisions in 2010. The Pension
             Protection Act makes permanent all of the retirement plan and IRA provisions of EGTRRA, including
             the Roth feature.

             Portability of After-tax Amounts – The Act provides that direct rollovers of after-tax amounts may
             be made between 401(k) and 403(b) arrangements. Thus, it’s very likely that rollover of Roth
             accounts may occur between “dislike” plans beginning in 2007, or earlier, if so provided in the final
             Roth distribution regulations.

             Rollover of Pre-tax Amounts from Plan to Roth IRA – Beginning in 2008, plans may permit direct
             rollovers of pre-tax deferrals to a Roth IRA. In order to use this recharacterization feature, participant
             must meet $100,000 AGI (adjusted gross income) limit. However, beginning in 2010, this AGI
             restriction is eliminated with respect to IRA conversions and, as with IRA conversions, plan
             participants might defer taxation to 2011 and 2012 of amounts rolled directly to a Roth IRA in 2010.




        There is no additional tax deferral benefit for contracts purchased in an IRA or other tax-qualified plan, since these are already
        afforded tax-deferred status. Therefore, an annuity should only be purchased in an IRA or qualified plan if the client values some of
        the other features of the annuity and is willing to incur any additional costs associated with the annuity to receive such benefits.

        Lincoln Financial Group (Lincoln) is the marketing name for Lincoln National Corporation and its affiliates.

        IRS CIRCULAR 230 DISCLOSURE: Any discussion pertaining to taxes in this communication (including
        attachments) may be part of a promotion or marketing effort. As provided for in government regulations, advice (if
        any) related to federal taxes that is contained in this communication (including attachments) is not intended or written
        to be used, and cannot be used, for the purpose of avoiding penalties under the Internal Revenue Code. Individuals
        should seek advice based on their own particular circumstances from an independent tax advisor.




        October 2006                                                       6                                                 LLA0609-1227
                                                                                                                              401(k) Q & A

								
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