Rollover of a defined benefit plan “DROP” to a 457 plan?
I have several officers with the department of corrections in the city I live and work. They have a program called “DROP”. This is for an employee who has reached normal retirement for the pension but chooses to work an additional 5 years. The defined benefit plan will payout benefits into a “DROP” account during those additional 5 years of work. Once they exit the DROP plan, they will have a lump sum in addition to their monthly pension. They are currently able to rollover their DROP funds to the 457 plan. However, many of these employees are under the age of 59 1/2. Many are in their early 50’s. I am trying to find out if those DROP funds, once rolled over, would be eligible for distribution without the 10% IRS penalty. The kicker is, if they just took the money directly from the DROP account as income, they wouldn’t have to pay the penalty. Please help!
To complicate matters further, it has been brought to my attention that there is some sort of exception to the 10% penalty if they are considered a “public safety officer”. However, we cannot determine if these corrections officers would fall under that provision or guideline. Have you heard of this exception?
Permalink Submitted by mk foss on Tue, 2012-06-05 01:14
The exception to the 10% penalty for “public safety employees” is from Section 414(d) defined benefit government plans. The public safety employees are police, firefighters, EMTs and “similar government workers” – I don’t have any knowledge to answer your other questions.
Permalink Submitted by Denise Appleby on Tue, 2012-06-05 11:45
[quote=”[email protected]“]… I am trying to find out if those DROP funds, once rolled over, would be eligible for distribution without the 10% IRS penalty…[/quote]
No. It will not. The 10-percent penalty will apply to withdrawal of those amounts, unless the participant qualifies for an exception
Permalink Submitted by Greg Henson on Tue, 2012-06-05 14:57
Potentially yes, they could avoid the 10% penalty. 2 situations that would allow them to do this: 1) If they are 55 and over, they can take out withdraws from the 457 penalty-free when they withdraw. If it is rolled to an IRA, then withdraws are processed the 10% penalty would apply. 2) they could set up substaintial equal payments untl they turn 59.5, or 5 years, whichever is greater. Those withdraws would be penalty free.
Permalink Submitted by Alan Spross on Tue, 2012-06-05 21:00
To clarify, per Sec 72t(9), distributions from a 457 plan attributed to qualified funds that were rolled into the plan are treated as qualified plan funds when distributed. That means that DROP funds rolled to the 457 plan and distributed would be treated as follows:
Penalty would apply unless:
1) Participant separated from service in the year reaching 55 or later
2) Participant reached 59.5
3) Participant distributed the funds as substantially equal payments
4) Other exception applies