401K options
Male client age 51 has 401K from his prior employer about $180,000. Currently unemployed. Can he make withdrawals from his 401K and pay only the income tax on the money, no surcharge? If not now, at what age without getting involved in a restrictive 72Q scenario of substantially equal payment format for the next 9 or so years? Just want to know the options, rather then advising him to rollover to an IRA and be stuck with those provisions. Thanks
Permalink Submitted by Alan Spross on Thu, 2009-12-03 23:13
With a DC plan such as a 401k, the only flexibile long term exceptions are the separation at 55 exception or disability. He cannot use the age 55 exception even if he waited that long because he separated prior to 55. Other exceptions are limited to specific temporary expenses such as medical expenses, insurance premiums paid pursuant to unemployment qualification, higher education, first home up to 10,000 etc.
The tax section for substantially equal payments is 72t for qualified plans and 72q for non qualified annuities. This is the “inflexible” alternative that is widely used, but you are correct to avoid it if there are other options, particularly if his unemployment period appears to be limited. That raises the question of whether his particular employment prospects will remain bleak for a long period or not. One obvious error to avoid is to start a 72t plan that will not produce enough annual income to live on, in this case for 8 years. Healthcare is the biggest problem in estimating someone’s annual expenses. Current interest rates are low, so a 72t calculation will not even yield 6% of the account balance for the annual distribution, which would be less than $11,000 annually.
If that amount will be enough along with any other resources, he could do the direct rollover to an IRA and start the plan. If this can be completed this year, he could take out the full annual distribution for 2009 and save as much as possible to subsidize future years costs until he can find new employment. The figure of 11,000 is low enough that if he can find a new position, he could just continue the plan and sock away as much as possible in the new employer’s plan to offset the drain on his retirement assets. He can only do the one time switch to the RMD method, which will cut his annual 72t distribution amount by around 40%.