Author Topic: Withdrawal from 401k when retiring at 55 - some Qs  (Read 4185 times)

Clean Shaven

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Withdrawal from 401k when retiring at 55 - some Qs
« on: June 20, 2015, 12:51:53 PM »
Mrs. CS and I are doing some retirement planning.  If she works until the year she turns 55, and then retires in that year, she can withdraw from her 401k without penalty.  For purposes of this thread, I'll call that rule the "Exemption."

As I understand it, the restrictions for using the Exemption are:
1) Retirement must occur in same calendar year as when Mrs. CS turns 55,
2) Can withdraw only from the current employer's 401k (i.e. prior employer's 401k plans are not eligible),
3) Does not apply to any IRA, including an IRA created from a rollover from prior employer's 401k.

Someone please correct me if I am wrong on any of the above.

So, my questions:
1) If Mrs. CS "rolls in" funds to her current 401k, which are funds that are currently in either (a) a prior employer's 401k plan, and/or (b) in a rollover IRA created from a prior employer's 401k, are these funds eligible for the Exemption?
2) If Mrs. CS returns to work at any time prior to age 59.5, does that return to work affect the Exemption in any way?  E.g.: (a) can Mrs. C. still withdraw 401k funds while working, (b) are there any restrictions on the return to work, such as under a certain # of hours, or certain $ amount gross income? Could she even return to work and contribute to a 401k?

Note: I am aware of the Roth pipeline and SEPP approaches to access IRA/401k funds before 59.5.  I'm just interested in this "retire during 55th birthday year" to see how we can incorporate that into our planning.  Mrs. CS says she wants to scale back considerably in a few years, but doesn't think she wants to fully retire -- she works in healthcare, and could continue working on a very part time basis, such as a few days per month, such as to fill in when others are on vacation.

sirdoug007

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Re: Withdrawal from 401k when retiring at 55 - some Qs
« Reply #1 on: June 20, 2015, 05:48:46 PM »
Check your employers plan carefully.  As stated in this Q&A, the employers rules can preempt the federal allowable distribution rules.  Your HR department should be able to give you the plan documents that show the employers rules for distributions.

http://www.nolo.com/legal-encyclopedia/question-if-i-retire-after-55-28075.html

For example, my employer does not allow distributions from the plan until 59.5 so this is not a feature I can take advantage of.

I think the answers to your questions are
1) All funds in the 401(k), no matter how they got there, would be eligible.  If the money is in a IRA or an old 401(k) when you retire, these funds would not be available without the 10% extra tax.
2) You need to be separated from your employer to take distributions usually so going back to work would close the door to access the money.  However, retiring again would open it again.
« Last Edit: June 20, 2015, 06:01:04 PM by sirdoug007 »

sirdoug007

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Re: Withdrawal from 401k when retiring at 55 - some Qs
« Reply #2 on: June 20, 2015, 06:08:55 PM »
Another pitfall to look out for.

Some plans only allow for lump sum distributions.  You don't want to pay income tax on a huge lump sum from your employer so you may be better off rolling the money into a IRA at that point and taking the 10% penalty.

https://www.expertplan.com/articles/a022001.jsp

Clean Shaven

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Re: Withdrawal from 401k when retiring at 55 - some Qs
« Reply #3 on: June 20, 2015, 06:36:58 PM »
Thanks. All good info, and I have some research to do.

FIRE me

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Re: Withdrawal from 401k when retiring at 55 - some Qs
« Reply #4 on: June 21, 2015, 11:17:49 AM »
Mrs. CS and I are doing some retirement planning.  If she works until the year she turns 55, and then retires in that year, she can withdraw from her 401k without penalty.  For purposes of this thread, I'll call that rule the "Exemption."

As I understand it, the restrictions for using the Exemption are:
1) Retirement must occur in same calendar year as when Mrs. CS turns 55,
2) Can withdraw only from the current employer's 401k (i.e. prior employer's 401k plans are not eligible),
3) Does not apply to any IRA, including an IRA created from a rollover from prior employer's 401k.

Someone please correct me if I am wrong on any of the above.

So, my questions:
1) If Mrs. CS "rolls in" funds to her current 401k, which are funds that are currently in either (a) a prior employer's 401k plan, and/or (b) in a rollover IRA created from a prior employer's 401k, are these funds eligible for the Exemption?
2) If Mrs. CS returns to work at any time prior to age 59.5, does that return to work affect the Exemption in any way?  E.g.: (a) can Mrs. C. still withdraw 401k funds while working, (b) are there any restrictions on the return to work, such as under a certain # of hours, or certain $ amount gross income? Could she even return to work and contribute to a 401k?

Note: I am aware of the Roth pipeline and SEPP approaches to access IRA/401k funds before 59.5.  I'm just interested in this "retire during 55th birthday year" to see how we can incorporate that into our planning.  Mrs. CS says she wants to scale back considerably in a few years, but doesn't think she wants to fully retire -- she works in healthcare, and could continue working on a very part time basis, such as a few days per month, such as to fill in when others are on vacation.

1) Negative. Any “separation from employment” qualifies. It can be quit, laid off, discharged, or retired. And it need not be in the exact year that you (she) turns 55. The rule is age 55 to 59.5, at which time of course early withdraw no longer applies.

2) Correct. I don't know for sure, but I think that rolled in funds from previous employment prior to her retiring would apply.

3) Correct.

1) Once the funds have been in an IRA, they are no longer eligible.

2) As far as I know, she could go back to work and contribute to a new 401k. But not the same employer. 

Sources:
http://www.irs.gov/taxtopics/tc558.html

http://www.irs.gov/pub/irs-pdf/p575.pdf
(page 34)

http://www.401khelpcenter.com/401k_education/Early_Dist_Options.html

http://www.forbes.com/sites/advisor/2012/05/09/did-you-know-you-can-access-your-401k-penalty-free-at-age-55/


Google "401k rule of 55" provides 269,000 results. Anything not straight from the IRS site should be verified before you act.
 
My advice:
Talk to the 401k plan administrator. See if you can get annual payments of the amount you need until she reaches age 59.5. If not, take a lump sum adequate to reach age 59.5 and roll the rest into an IRA of your choice.

Clean Shaven

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Re: Withdrawal from 401k when retiring at 55 - some Qs
« Reply #5 on: June 21, 2015, 12:48:19 PM »
Thanks FIRE Me!

MDM

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Re: Withdrawal from 401k when retiring at 55 - some Qs
« Reply #6 on: June 21, 2015, 01:28:44 PM »
Anyone know how
    "made to an employee after separation from service after attainment of age 55" (the language in 26 U.S. Code § 72(t)(A)(v))
becomes
    "after your separation from service in or after the year you reached age 55" (the language on p. 34 of http://www.irs.gov/pub/irs-pdf/p575.pdf)?

Those aren't the same thing....

Cathy

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Re: Withdrawal from 401k when retiring at 55 - some Qs
« Reply #7 on: June 21, 2015, 03:46:08 PM »
Anyone know how
    "made to an employee after separation from service after attainment of age 55" (the language in 26 U.S. Code § 72(t)(A)(v))
becomes
    "after your separation from service in or after the year you reached age 55" (the language on p. 34 of http://www.irs.gov/pub/irs-pdf/p575.pdf)?

Those aren't the same thing....

I commented on the discrepancy between the clear statutory language and the IRS's materials in a previous post. This particular IRS position has apparently been maintained since 1987, but that says nothing about its correctness. The IRS position is, at best, highly questionable. However, the nature of the adversarial system in the USA is that this position is very unlikely to ever be challenged because it strictly benefits taxpayers.

I can only imagine one set of facts that would allow a taxpayer to challenge the IRS position here. Specifically, 26 USC § 7623(b)(1) authorises awards to persons who substantially contribute to the collection of tax by the IRS. The award is not less than 15% but not more than 30% of the tax collected as a result of a substantial contribution, depending on how substantial the contribution was, as determined by the IRS in the first instance, but subject to appeal to the Tax Court. If you are in the position of collecting such an award, it is in your interest for the tax collected to be as large as possible, so that you get a larger portion of the collection proceeds.

This thus represents a rare instance where a taxpayer would have potentially have standing to challenge a taxpayer-friendly IRS position, to increase the amount of tax collected and hence to increase the reward. The IRS's position to date is that the Tax Court has a very limited power to review its award decisions and cannot inquire into the underlying tax files, but that position was rejected a couple weeks ago in a case that I will call Sealed Petitioner v. Commissioner, 144 TC No 15 (June 2, 2015). However, obtaining discovery of the underlying tax files might still be difficult as you would have to bring yourself within one of the limited exceptions to the general rule of confidentiality.

Overall, judicial intervention probably represents a very low risk to relying on the IRS's dubious position here. However, a relatively larger risk is that the IRS could simply change its position, with no warning, after you have already relied on its publications. Personally, to eliminate any doubt, I would comply with the more stringent statutory language rather than the IRS's position.

MDM

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Re: Withdrawal from 401k when retiring at 55 - some Qs
« Reply #8 on: June 21, 2015, 04:26:24 PM »
I commented on the discrepancy between the clear statutory language and the IRS's materials in a previous post.

Thanks Cathy.  I remembered the gist of the previous post (that IRS publications are not the same as laws), but not that this exact situation had been used as an example....