Dear Dr. Don,
Two years ago, I retired at age 55 after working for my employer for 38 years. I'm wondering whether I can roll my 401(k) money into an individual retirement account without incurring the 10% penalty. If not, I have heard that I can withdraw the money from my 401(k) in 5 equal installments. Is that true?
-- Connie Conundrum
Early retirement is something to celebrate. You've already made many of our younger readers a bit envious.
Now that you're ready to do some work on plotting your future, let's begin. One of the first steps is determining your goal in moving your 401(k) plan funds. Are you trying to take distributions while avoiding the 10% penalty for early withdrawal? Or, do you want the money to increase investment options and control of the account?
Your 401(k) plan may give you the option to withdraw funds without penalty between age 55 and 59 1/2.
An IRA rollover?
You can roll your 401(k) balance into an individual retirement account without penalty and continue to defer taxes on the money. You might be able to save on taxes by transferring the company stock into a taxable account while simultaneously rolling over the other funds into the IRA.
You could also decide to take the tax hit now and roll the non-company stock funds from the account into a Roth IRA, making later distributions tax-free once the 5-year seasoning requirement on the account has been met.
Bust a 72(t) move
The other alternative you're considering is a called a 72(t) distribution. It allows you to make substantially equal periodic payments out of the account based on your life expectancy without paying the 10% penalty tax on early distributions.
These payments must continue for at least 5 years, or until age 59 1/2, whichever is longer. If you are 57 years old, the payments would have to continue at least until age 62.
If you don't follow the rules, however, you could owe the 10% penalty tax, plus interest, on all the 72(t) distributions.
Don't forget our famous calculators!
Bankrate has a 72(t) calculator that will allow you to estimate the annual distribution you can take from the account without triggering the penalty tax. I recommend working with a tax professional to determine the allowable periodic distributions.
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