55 to 59 1/2 IRA Distribution
I am 55 now. I will seperate from service November 1 and want to take a large lump sum distribution from my 401k December 1. Since I will be seperated from service on Dec 1, will I avoid the 10% early distribution tax due to the 55 and seperated “exception”? Second part, if this works, will it not also work if I first roll to and IRA and then take the same distribution “after seperation?” Or, is the only way to avoid basic pre-59 1/2 IRA distributions through the substantially equal payments process??
Permalink Submitted by BruceM on Thu, 2008-08-21 17:30
To be eligible for the exception to the 10% early withdrawal penalty, you must turn 55, separate from service and then take the withdrawal from the employer sponsored retirement plan, in that order. Doing a rollover to your TIRA and then taking a withdrawal prior to age 59.5 would be subject to the 10% early withdrawal penalty, assuming you have no other exceptions to the 10% penalty.
And as a kind of fine point….a lump sum distribution is by definition a total account withdrawal that is done for certain tax favored reasons like 10 year forward averaging or Net Unrealized Appreciation. I suspect here that you mean a partial withdrawal.
And a SEPP plan from a separately established TIRA is certainly another way to generate needed income while avoiding the 10% early withdrawal penalty. Because these SEPP plans must run for the later of 5 years or to age 59.5, it sounds like it might be a good option, particularly if your employer sponsored 401(k) is laced with expenses as so many are. The challange is to correctly do the calculations to ensure adequate $$ are transferred to the SEPP IRA using one of the 3 approved methods for determining the periodic payments.
BruceM
BruceM
Permalink Submitted by Dana Lundquist on Thu, 2008-08-21 18:18
Thank you. However, do I understand the first part of the answer correctly. A 55-59 1/2 distribution from the 401k must be an all or nothing deal…partial distributions from this account will not waive the 10% penalty (assuming no other hardship, etc, waivers apply)??
Thank you!!
Permalink Submitted by John H. Palmer III on Thu, 2008-08-21 19:00
If you are both 55 and separated from service of prior employer, you may take distributions from the prior employer plan without the 10% penalty. You may take them as often as you like and in any amount you like subject only to the rules of the prior employer.
Permalink Submitted by Alan Spross on Thu, 2008-08-21 19:50
As indicated, any distributions that you can take DIRECTLY from the 401k will not be subject to early withdrawal penalty, whether a lump sum or smaller distributions. However, you may be facing a more severe cost if you take a large taxable distribution, particularly since you plan to take it in the same year in which you worked most of the year. Your total income would almost surely increase your marginal tax bracket and your ordinary tax bill would escalate even though you avoid the penalty.
At least, consider waiting until 2009 if you have a real need to take a large distribution, and in addition check with the plan to determine what flexible installment plans they may offer. If they only offer a lump sum distribution, then you may need to resort to the rigid 72t (SEPP) plan after directly transferring the plan to an IRA. You may also benefit by doing a combination of the two, if the plan permits. That would entail taking the amount needed for any large up front costs directly from the plan penalty free, then transferring the remainder to an IRA for a SEPP if the plan will not provide smaller payments until you are 59.5.