How To Access Money Without Penalties

[cscott711]

Hello all,

This is my first post so take it easy on me as this is probably a dumb question, but I can't figure out the answer.

As is the theme of the site, I want to retire early. I am in process of creating that plan, but my biggest question right now is how I access my retirement money in my 40's without taking hefty penalties? I'm contributing a large chunk of my paycheck to my company's 401k, but everything I find says that I can't access that until I'm 59 1/2 years old. I have found something called a SSEP (I think) which says that you can take substantial equal payments on a monthly basis starting at 55, but that included several stipulations and still doesn't get me to my goal of retiring in my 40's.

Should I lower my 401k contributions and put the difference into the stock market? It seems like there has to be a better alternative since this is after-tax dollars which just seems wrong.

Someone please fill me in! Thanks.

[REWahoo]

Read up on "Rule 72t".

Rule 72(t) Definition | Investopedia

There is no age 55 limit on withdrawals using this plan.

[cscott711]

Thanks REW. I'll check it out.

[REWahoo]

Here is a great resource on 72t: 72t.Net | SEPP Plans

[rescueme]

"How To Access Money Without Penalties"

Oops! I thought it was about robbing a bank without going to jail ...

(Some morning humor from somebody that is retired, "older than dirt" and "early withdrawl" means something else, entirely... )

[BigMoneyJim]

The 401(k) retire-before-55 plan is to perform a direct rollover into an IRA and then take SEPP's from the IRA. In my 401(k) plans so far I can't roll into an IRA until my employment ends. SEPPs have rules and potential penalties. The rules have changed somewhat in the past 5-10 years, so make sure you're reading current info.

There also might be some component of rolling into a Roth IRA and withdrawing principal after 5 years.

Quote:

Originally Posted by rescueme "How To Access Money Without Penalties" Oops! I thought it was about robbing a bank without going to jail ...

Shhh! Don't give away the secrets!

[ziggy29]

Quote:

Originally Posted by BigMoneyJim The 401(k) retire-before-55 plan is to perform a direct rollover into an IRA and then take SEPP's from the IRA. In my 401(k) plans so far I can't roll into an IRA until my employment ends. SEPPs have rules and potential penalties. The rules have changed somewhat in the past 5-10 years, so make sure you're reading current info. There also might be some component of rolling into a Roth IRA and withdrawing principal after 5 years.

The key provision to remember in using SEPP is that you have to continue taking the SEPP until age 59.5 or for five years, whichever is *later*. If you started SEPP at 57, you'd need to do it until 62.

As for an income stream from the Roth, since the *contributions* can be withdrawn tax-free at any time (at least after 5 years from the calendar year in which you establish your first Roth IRA), and since the first dollars you take out are considered to be withdrawal of contributions, you can withdraw any amount (below your total contribution amount) tax-free before age 59.5. Plus it can be flexible -- it doesn't have to be the (roughly) same amount year after year like with SEPP; you could skip one year entirely and withdraw $20,000 the next.

[cscott711]

Quote:

Originally Posted by ziggy29 The key provision to remember in using SEPP is that you have to continue taking the SEPP until age 59.5 or for five years, whichever is *later*. If you started SEPP at 57, you'd need to do it until 62. As for an income stream from the Roth, since the *contributions* can be withdrawn tax-free at any time (at least after 5 years from the calendar year in which you establish your first Roth IRA), and since the first dollars you take out are considered to be withdrawal of contributions, you can withdraw any amount (below your total contribution amount) tax-free before age 59.5. Plus it can be flexible -- it doesn't have to be the (roughly) same amount year after year like with SEPP; you could skip one year entirely and withdraw $20,000 the next.

Let me see if I'm following this correctly. I could convert my 401k to a Roth IRA and not have to deal with the SEPP stipulations?

[ziggy29]

Quote:

Originally Posted by cscott711 Let me see if I'm following this correctly. I could convert my 401k to a Roth IRA and not have to deal with the SEPP stipulations?

I'm not a tax pro, a CPA or a lawyer, but my understanding is that for conversions (not contributions) you have to leave it be for five years (or until age 59.5) or else it is not a "qualified" tax-free withdrawal. So if you converted before the end of this year, you couldn't withdraw these funds tax-free until January 2016 as I understand it. (The five year rules go by tax year and don't consider the day of year.) Withdrawals of converted funds before that time would be subject to early withdrawal penalty.

For *contributions*, this doesn't apply -- if you've had any Roth IRA account open for at least five years, the contributions (not conversions) are always available for tax-free withdrawal.

[Rustward]

One hazard of 72t is that if you fail to take the required amount in any year, the 10% early withdrawal penalty is applied retroactively to all withdrawals previously taken.

This is not a reason to avoid 72t, but a reason to make sure to take all the required distributions on time.

[frayne]

Here is my experience and your mileage may vary. Just before my 55th birthday I retired and rolled over my 401K and lump sum pension into an ordinary IRA with Fidelity. I did my homework on 72Ts and ran the numbers and also had a CPA and Fidelity run the numbers, all were essentially the same. Just before turning 56 I started my 72T. Fast forward, two years later I received a letter from the IRS saying that I owed a 10% penalty because I wasn't eligible for the 72T. I sent the IRS all the supporting documentation and withdrawal amounts to that date and basically got a letter back saying, OK. As a side note I also took an H&R Block income tax course in order to learn more about how best to minimize my future tax liabilities and actually got talked into working for Block which I have done for the past five years during tax season. I am continuing my 72T and will probably do so for at least six years total to make sure their are no glitches that the IRS can come back to me on. When you do start taking your 72T before age 59.5 your 1099R will list your distribution code as a 1. You will need to complete an IRS 5329 form noting that you are taking 72T aka substantial equal periodic payments. A side benefit to taking the 72T is that I am able to take my payments and bank a substantial amount which will help me in the long run minimize RMDs come age 70.

I would encourage you to read up all you can and run the numbers and have them double checked before you start. If you have any questions feel free to email me. Hope this helps a bit.

[cscott711]

Quote:

Originally Posted by frayne Here is my experience and your mileage may vary. Just before my 55th birthday I retired and rolled over my 401K and lump sum pension into an ordinary IRA with Fidelity. I did my homework on 72Ts and ran the numbers and also had a CPA and Fidelity run the numbers, all were essentially the same. Just before turning 56 I started my 72T. Fast forward, two years later I received a letter from the IRS saying that I owed a 10% penalty because I wasn't eligible for the 72T. I sent the IRS all the supporting documentation and withdrawal amounts to that date and basically got a letter back saying, OK. As a side note I also took an H&R Block income tax course in order to learn more about how best to minimize my future tax liabilities and actually got talked into working for Block which I have done for the past five years during tax season. I am continuing my 72T and will probably do so for at least six years total to make sure their are no glitches that the IRS can come back to me on. When you do start taking your 72T before age 59.5 your 1099R will list your distribution code as a 1. You will need to complete an IRS 5329 form noting that you are taking 72T aka substantial equal periodic payments. A side benefit to taking the 72T is that I am able to take my payments and bank a substantial amount which will help me in the long run minimize RMDs come age 70. I would encourage you to read up all you can and run the numbers and have them double checked before you start. If you have any questions feel free to email me. Hope this helps a bit.

Very interesting. Thank you very much for the response.

[easysurfer]

When I FIRE'd I was 47 so had the same question. What I did was put the 401K balance and lump sum balance from my pension into a currently existing IRA. Afterwards, in order to tap into some of my retirement without the penalty, used a portion of that for a SPIA. Since the SPIA is already calculated as equal payments for my lifetime, that automatically satisfies the 72T requrement (even got a letter saying my 72T requirement is satisfied).

[meekie]

Quote:

Originally Posted by cscott711 Should I lower my 401k contributions and put the difference into the stock market? It seems like there has to be a better alternative since this is after-tax dollars which just seems wrong.

If you're getting any match, you really don't want to lower your 401k contributions. At some point, you might start maxing those out, which would be a good time to invest money outside of your 401k. I've got an "early retirement" fund that we add to when we can.

[ziggy29]

Quote:

Originally Posted by meekie If you're getting any match, you really don't want to lower your 401k contributions. At some point, you might start maxing those out, which would be a good time to invest money outside of your 401k. I've got an "early retirement" fund that we add to when we can.

Since this was described as an "after-tax" contribution it doesn't seem likely there's any matching involved. In fact, in my plan those who want to contribute after-tax still need to put the first 5% of their salary into the pre-tax 401K because that portion is matched. Anything above that amount, the employee is free to choose before tax *or* after tax.

[LOL!]

And don't forget that you can take withdrawals from your 401(k) plan if you have retired from the company at age 55. You don't have to do a SEPP/72(t) to do so. You should research this and come back and tell us about it.

[REWahoo]

Quote:

Originally Posted by LOL! And don't forget that you can take withdrawals from your 401(k) plan if you have retired from the company at age 55. You don't have to do a SEPP/72(t) to do so. You should research this and come back and tell us about it.

Looks like you missed this part of the OP's story:

Quote:

Originally Posted by cscott711 As is the theme of the site, I want to retire early. I am in process of creating that plan, but my biggest question right now is how I access my retirement money in my 40's without taking hefty penalties?

[steelyman]

Quote:

Originally Posted by LOL! And don't forget that you can take withdrawals from your 401(k) plan if you have retired from the company at age 55. You don't have to do a SEPP/72(t) to do so. You should research this and come back and tell us about it.

Do you mean "quit from your job" or "retire from your job"? I think (not sure) there may be a difference. For example, I left work in 2011 but I am not yet 55. So I have been assuming I cannot take penalty-free withdrawals from the employer plan (with the exception of deferred compensation) until the standard 59-1/2.

Edit/add: and I am also not able to formally "retire" until I reach 55. But I did stop working and was able to join the ranks of the ER (maybe that should be "EF", for "early freedom"?).

[ziggy29]

Quote:

Originally Posted by steelyman Do you mean "quit from your job" or "retire from your job"? I think (not sure) there may be a difference. For example, I left work in 2011 but I am not yet 55. So I have been assuming I cannot take penalty-free withdrawals from the employer plan (with the exception of deferred compensation) until the standard 59-1/2.

Just a point of clarification which may not apply to you but might to others: You don't even need to be 55 when you sever employment -- you just have to sever employment in the year you turn 55. So if someone was born in December 1957, they could retire in January 2012 and withdraw from their 401K without penalty even though they are barely more than 54 -- because 2012 is the year in which they will turn 55, they are good to go.

[jazz4cash]

Quote:

Originally Posted by cscott711 Let me see if I'm following this correctly. I could convert my 401k to a Roth IRA and not have to deal with the SEPP stipulations?

The terms "conversion" and "rollover have very specific meanings. If your 401k permits IRA rollovers, you can do a rollover from the 401k and then use the IRA for the 72t. SEPP and 72t are the same for this discussion. I do not believe you need to leave the funds in the IRA for any specific period of time before starting the SEPP. You can also access IRA funds for tuition, home purchase and I think medical expenses without penalty.