72t distribution rule with a terminal diagnosis
Recently I had someone receive a terminal diagnosis at age 54. In speaking with his CPA she
mentioned the 72t rule to access my 401k funds. I have read information about the
rule; however, I could not find distribution calculation methods provided for
situations where life expectancy is only a couple of years at the most. How
does the distribution calculation work in terminal illness situations?
Permalink Submitted by Alan Spross on Fri, 2012-11-02 21:43
There are no special distribution calculations for terminal conditions.
However, a 72t plan with all it’s rigid requirements is probably not needed in this situation. The disability exception to the early withdrawal penalty would probably apply in this situation. The following is the disability definition used to generate the exception code 3 (disability) on the 1099R:
>>>>>>>>>>>>>>>>
(7) Meaning of disabled
For purposes of this section, an individual shall be considered
to be disabled if he is unable to engage in any substantial
gainful activity by reason of any medically determinable physical
or mental impairment which can be expected to result in death or
to be of long-continued and indefinite duration. An individual
shall not be considered to be disabled unless he furnishes proof
of the existence thereof in such form and manner as the Secretary
may require.
>>>>>>>>>>>>>>>
A letter from the MD can be submitted to the plan and the plan may agree to the Code 3. But even if they don’t, the taxpayer can complete Form 5329 and claim the disability exception for any distributions made after the disability determination date. I understand that the taxpayer possibly will not meet the definition. If so, then a separation from service in the calendar year the taxpayer reaches 55 is another penalty exception which the plan would be sure to recognize in their 1099R coding.
A 72t plan should be the last resort, but if necessary such a plan could be initiated, but it must be based on normal life expectancy calculations. Once the disability determination becomes official, the plan can be terminated without penalty.