Pension Distribution

Submitted by Brian Kuhn on Mon, 2017-05-08 19:57

Individual under age 59.5 receives correspondence saying they can now begin their pension monthly payment or receive a lump sum for the balance that represents their pension. If they elect that distribution is there a 10% penalty even though there is not one to choose the monthly payments while under 59.5? Thanks,



Submitted by Alan - IRA critic on Mon, 2017-05-08 20:42

Did the individual separate from service in the year they reached 55 or later? If so, there is no penalty. With or without the penalty, the individual would probably roll over most of a lump sum distribution, rather than having the entire amount taxable in a single year which would likely result in an increased marginal tax rate for that year.

Submitted by Brian Kuhn on Tue, 2017-05-09 14:58

Okay thanks that’s what I thought.  They did not separate prior to age 55.  They are over age 55 right now while being given the choice.  But that’s irrelevant correct?

Submitted by Alan - IRA critic on Tue, 2017-05-09 16:36

As long as they separated at 55 or later, there is no 10% penalty on any distributions that they do not roll over to an IRA. It does not matter what their age is now, but obviously it would be 55 or later. For amounts rolled over to an IRA and later distributed from the IRA, the penalty applies up to age 59.5.  If they elected a life annuity, those amounts would be taxable, but no penalty and the monthly payments cannot be rolled over.

Submitted by Brian Kuhn on Tue, 2017-05-09 16:40

Okay understood.  It’s not obvious that person is over 55 now though.  Separated from service at 43, worked elsewhere following vesting in that pension.  Now over 55 and received a letter saying a lump sum is an option that never existed before.  

Submitted by John Wright on Tue, 2017-05-09 17:14

It sounds as if the OP is referring to a pension rather than a 401k plan

Submitted by Brian Kuhn on Tue, 2017-05-09 17:18

I don’t know what OP stands for.  But it’s a pension.  Not a 401k

Submitted by John Wright on Tue, 2017-05-09 17:30

Original Poster.Completely different rules for pension vs 401k. I will defer to others for expert opinions and advice.

Submitted by Alan - IRA critic on Tue, 2017-05-09 18:03

  • To clarify, since the individual separated PRIOR to 55, the penalty WILL apply to distributions taken before age 59.5 including any life annuity payments. This is true for both DC plans (401k) and DB plans (typical pension plan). The main question here is whether a substantially equal payment like a life annuity qualifies for the penalty waiver. It does not qualify because it must be calculated using one of the 3 approved methods for 72t plans. A life annuity uses different interest rates and account balance considerations rather then one of the 3 approved methods. Such distributions or any other distributions from the plan prior to 59.5 should then be coded 1 on the 1099R. That coding would change to 7 (normal) for all distributions after 59.5 and the penalty would no longer apply. It is also possible that the individual qualifies for a different penalty waiver such as for disability or high unreimbursed medical expenses and could claim that exception using Form 5329.
  • Since it is likely that the penalty will apply for any distributions not rolled over, perhaps an IRA rollover of the lump sum should be done and then a 72t plan using one of the approved methods should be applied to distributions from the IRA. That is usually a last resort, but in this case there are probably no other options to avoid the penalty prior to 59.5.

Submitted by Brian Kuhn on Tue, 2017-05-09 18:20

Wonderful thanks.  Even those who choose the lifetime annuity.  Wow.  

Add new comment

Log in or register to post comments