401k / Pension Distribution

Submitted by Todd Martin on Mon, 2014-01-20 18:22

I have a client who is currently 55 and recently retired. She has a 401k with her previous employer and a lump sum pension plan that was rolled over into an IRA Rollover this month. She wants to take a distribution from either of these accounts to pay off $50,000 of credit card debts. Her CPA is telling her that she can take a lump sum and although the distribution would be taxable she will be able to avoid the 10% tax penalty because she is 55 years old and almost 56. My understanding of the rule (72t) is that she can take distributions but must take equal distributions for 5 years to avoid the penalty. Is there any way she can take the lump sum distribution and avoid the 10% tax penalty? Thank you in advance for you help.



Submitted by Alan - IRA critic on Mon, 2014-01-20 19:35

If she separated from the company who sponsored the 401k plan in the year she reached 55 or later, distributions directly from that plan are penalty free, and avoid the need for a SEPP plan. But she cannot separate prior to the year she reaches 55 and just wait until she is 55 to take the penalty free distribution, so the question is her specific separation date in relation to the year she reaches 55.

Submitted by Todd Martin on Tue, 2014-01-21 00:27

She turned 55 on 3/10/2013.  Her last day of work was 9/30/13 and first day of retirement was 10/1/13.  Based upon your response, it looks like she can take a lump sum distribution from her 401k for the credit cards and avoid the 10% penalty correct?  What is this rule called?  Her 401k is still housed with her previous employer.  However, we haver rolled over her lum sum pension.  Does this  rule apply regardless of whether it is a pension, 401k, or IRA rollover?  Or does she need to request the distribution from her 401k prior to rolling it over to an IRA?  As always Alan, thank you for the expertise.

Submitted by Alan - IRA critic on Tue, 2014-01-21 01:01

  • With those dates she DOES qualify for the penalty free distributions under the age 55 separation from service exception. The 1099R issued by the plan to report the distributions should be coded to recognize that exception, but in the chance that they do not, all client has to do is include Form 5329 with her tax return and enter the exception code to claim the exception.
  • The exception applies to distributions that are not rolled over. It is not needed if a rollover is done. But the portion she needs to pay the cc debt will obviously not be rolled over. It will not be penalized but it will be taxed and distribution of 50k could increase her tax rate.
  • She can take the distribution she needs penalty free, and the rest that she does not need can be rolled over to an IRA as a direct rollover. There will be no taxes due on the rollover and no withholding as long as a direct rollover is done. The prior rollover of the pension does not affect the above issues.

Submitted by Todd Martin on Tue, 2014-01-21 18:49

Alan, do you know the IRS Publication that I can find this rule and information?  Her CPA is still telling her it can’t be done.  Thank you.

Submitted by Alan - IRA critic on Tue, 2014-01-21 20:54

Here is the IRS penalty chart. Scroll down to the final penalty exception. The chart also shows the tax code cite that addresses this exception:   http://www.irs.gov/Retirement-Plans/Plan-Participant,-Employee/Retirement-Topics—Tax-on-Early-Distributions. The exception is also shown on p 82 of Pub 17.

Submitted by Todd Martin on Tue, 2014-02-04 22:55

Thank you Alan.  That is exactly what I needed.

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