What to spend first?

[SecondCor521]

Thank you- the 10% penalty I referred to would be from the IRS since no “rule of 55” from employer.

No, it wouldn't.

The 1099-R from your employer may indicate that a 10% penalty may be due. If you qualify under the federal law, then you may use IRS Form 5329 line 1 exception code 1 to avoid the 10% penalty.

From the IRS:

"Exceptions to the Additional Tax on Early Distributions

[Exception 01] Qualified retirement plan distributions (doesn’t apply to IRAs) you receive after separation from service when the separation from service occurs in or after the year you reach age 55 (age 50 for qualified public safety employees). For distributions to qualified public safety employees on or after December 30, 2022, include distributions to employees with 25 years of service with the plan, distributions to firefighters covered by private sector retirement plans, and distributions to those employees who provide services as a corrections officer or as a forensic security employee, providing for the care, custody, and control of forensic patients, who meet the age requirement above."

-- page 4 column 2 at https://www.irs.gov/pub/irs-pdf/i5329.pdf

[Emphasis added.]

 

[Beachbound]

No, it wouldn't.

The 1099-R from your employer may indicate that a 10% penalty may be due. If you qualify under the federal law, then you may use IRS Form 5329 line 1 exception code 1 to avoid the 10% penalty.

From the IRS:

"Exceptions to the Additional Tax on Early Distributions

[Exception 01] Qualified retirement plan distributions (doesn’t apply to IRAs) you receive after separation from service when the separation from service occurs in or after the year you reach age 55 (age 50 for qualified public safety employees). For distributions to qualified public safety employees on or after December 30, 2022, include distributions to employees with 25 years of service with the plan, distributions to firefighters covered by private sector retirement plans, and distributions to those employees who provide services as a corrections officer or as a forensic security employee, providing for the care, custody, and control of forensic patients, who meet the age requirement above."

-- page 4 column 2 at https://www.irs.gov/pub/irs-pdf/i5329.pdf

[Emphasis added.]

OK- so even if the employer doesn’t participate in the rule of 55, it is a federal exception since I retired from the company at age 55. My job is nothing is public service. So my company may impose the 10% penalty during my withdrawal, but that would be credited back during my tax filing because I meet the federal requirements?

Same way the company would impose a 22% federal tax, but after filing and with my income, deductions, etc.that tax rate would be much lower than 22%.

Great information- thank you again!

 

[Gumby]

I think what some have been saying is that the company may not let you have periodic distributions, may limit you to a certain amount and/or may charge a fee for them. As an example, the young wife has a 457 account left from her days as a teacher. She can only take 10% of the balance once a year, and there is a fee to do it. If she wants more than 10%, she has to take it all, which would present a huge tax bill (even without a 10% early withdrawal penalty from the IRS). We have not needed to touch any of it for the last 4 years since we retired, so it hasn't been a big deal for us, but very soon we are going to roll it into a tIRA at Vanguard (trustee to trustee transfer) just to have more control, better investment choices and less fees going forward.

 

[Beachbound]

I think what some have been saying is that the company may not let you have periodic distributions, may limit you to a certain amount and/or may charge a fee for them. As an example, the young wife has a 457 account left from her days as a teacher. She can only take 10% of the balance once a year, and there is a fee to do it. If she wants more than 10%, she has to take it all, which would present a huge tax bill (even without a 10% early withdrawal penalty from the IRS). We have not needed to touch any of it for the last 4 years since we retired, so it hasn't been a big deal for us, but very soon we are going to roll it into a tIRA at Vanguard (trustee to trustee transfer) just to have more control, better investment choices and less fees going forward.

Thanks Gumby- definitely need to do some more research on my end, but from what I have discussed with them before- there are no set limits on what I can withdrawal after I separate from company-but highly taxed for sure. I know I won’t need any large amounts for the first 2-3 years, but will have to make some withdrawals before 59 1/2 for sure. Just need to figure out how much cash to use initially and how much to supplement with withdrawals each year- or wait for withdrawals until absolutely needed.

 

[rmorris50]

I think you have enough to retire but not by a long shot based on what you have written. The bigger problem is penalty-free access to your 401k money from ER at 55 to 59-1/2.

You'll need to do a cash flow schedule to see if you can cover 55 to 59-1/2. If you can't or it is uncomfortabley close, then you might consider a cash out refinancing or HELOC to get you from 55 to 59-1/2. What is your current home mortgage interest rate? Another alternative to solve the liquidity problem would be to roll the 401k into an tIRA and then do a SEPP/72t.

Des your employer allow partial withdrawals from your 401k? Does it allow 401k loans? If so, are 401k loans required to be repaid when you leave?

Can you downshift to part -time?

My HELOC rate right now is 9.5%!!! Just might as well pay the penalty [emoji15].

 

[Gumby]

...
- health insurance would come from ACA beginning 2024, so yes, would like to keep my income as low as possible for subsidies.
....

Don't go overboard with this. To qualify for the ACA at all, your adjusted gross income needs to be above the Federal Poverty Line (FPL). For a non-Medicaid expansion state like Florida, that is $18,310 per year for a household of two (as of 2023). The system is set up assuming that you will be on Medicaid if your income is below that, but Medicaid also has an asset test, which you probably will not be able to meet. So you may find yourself with no health insurance at all other than full pay private insurance. Even in the early years, when you still have after tax savings, you'll still want to pull at least this much from your 401k or tIRA.

 

[NW-Bound]

To get access to your pre-tax money in your 401k without penalty, you can roll it out to an IRA.

Then, you don't have to pay the 10% penalty on your withdrawals prior to 59-1/2 by doing a 72(t) distribution.

The rules regarding 72(t) are very rigid. There are a few different ways the distribution can be scheduled, but once a method is chosen it generally cannot be changed. So, one has to do a lot of planning.

PS. I am fortunate to have sufficient after-tax money to tide me over till 59-1/2, so did not have to do 72(t) distribution.

If I had to do 72(t), I would schedule a bit more withdrawal than my planned expenses, to build up a cash buffer for large unexpected expenses. I would also start distribution early, in order to not spend down my after-tax money too much.

 

[Gumby]

To get access to your pre-tax money in your 401k without penalty, you can roll it out to an IRA.

Then, you don't have to pay the 10% penalty on your withdrawals prior to 59-1/2 by doing a 72(t) distribution.

The rules regarding 72(t) are very rigid. There are a few different ways the distribution can be scheduled, but once a method is chosen it generally cannot be changed. So, one has to do a lot of planning.

PS. I am fortunate to have sufficient after-tax money to tide me over till 59-1/2, so did not have to do 72(t) distribution.

If I had to do 72(t), I would schedule a bit more withdrawal than my planned expenses, to build up a cash buffer for large unexpected expenses. I would also start distribution early, in order to not spend down my after-tax money too much.

I don't want to speak for the OP, but it seems he wants to leave the money in his 401k because he thinks he'll be able to get more money out penalty free than the 72(t) will permit and the 72(t) amount is insufficient to cover his living expenses, even when supplemented by after tax savings. A brief look at this calculator https://www.bankrate.com/retirement/72-t-distribution-calculator/ shows about $47k allowable without penalty. If his living expense are truly $120k and his after tax savings is only $60k, he won't even make it one year.

 

[NW-Bound]

^^^ Thanks. I missed the pertinent facts in the OP's post.

Sorry.

I will go back to sleep now.


PS. But before I do that, I have to say I agree with earlier posters about being able to take money out of a 401k if you leave work after 55. I did not have that option as I left megacorp at the age of 40.

 

[pb4uski]

I think the OP can use a higher rate and his 72t could be as much as $63k a year using 4.99%, 120% of the April 2023 mid-term Applicable Federal Rate assuming $1 million 401k and OP is 55 and spouse is 54.

Your maximum annual 72(t) distribution is $62,787.
Your maximum 72(t) distribution of $62,787 per year was calculated by the 'Fixed annuitization method' method at 4.99%. To avoid penalties, payments must last for five years (the five-year period does not end until the fifth anniversary of the first distribution received) or until you are 59-1/2, whichever is longer.

 

[SecondCor521]

OK- so even if the employer doesn’t participate in the rule of 55, it is a federal exception since I retired from the company at age 55. My job is nothing is public service. So my company may impose the 10% penalty during my withdrawal, but that would be credited back during my tax filing because I meet the federal requirements?

Same way the company would impose a 22% federal tax, but after filing and with my income, deductions, etc.that tax rate would be much lower than 22%.

Great information- thank you again!

You're welcome.

It's likely even better than what you said. Your employer will not impose the 10% early withdrawal penalty. I've never heard of that happening, and from what I understand it should not happen.

You also may be able to tell the company what withholding rate you want for federal and any applicable state taxes. Ask your 401(k) administrator.

The system is set up assuming that you will be on Medicaid if your income is below that, but Medicaid also has an asset test, which you probably will not be able to meet.

In my state, which expanded Medicaid, there is no asset test. I don't know how that interacts with asset tests for things like Medicaid long term care, or for seniors.