More individuals are now taking part in their 401(k) retirement plans more than ever before.
With new regulations, businesses have easily offered 401(k) plans. Current regulations allow businesses to automatically establish 401(k) plans for their employees. If the employer provides company match as a percentage of employee contributions, the 401(k) plan is an attractive option for employees.
With the 401(k) plan, many employees will not have the advantage of being able to make tax-free contributions, receive employer matches, invest in wide range of equity and bond options on a repeat tax basis, with dividends, interest and capital growth. Employer matches make the 401(k) option very appealing.
As recently noted, Congress has established regulations related to various retirement planning options to allow employees to withdraw from the plan, maintain their retirement accounts, maintain additional contributions, and receive tax benefits on assets remaining in the account.
Below we will explain the withdrawal options available if you have established a 401(k). You have the option to make a “difficult” withdrawal or use a loan option. Each of these options has its own advantages and disadvantages.
Difficult withdrawal: If less than 59 1/2, the “difficult” withdrawal option is available. Existing regulations allow you to withdraw from your account if you are subject to medical disability, financial difficulties, or separation from the service. Income taxes will be incurred based on the amount of withdrawal for any of the following types of difficult withdrawals: Because when you make your first contribution, you contribute on a tax-free basis. You will be subject to an early 10% penalty unless you qualify for any of the following acceptable exceptions: If you use the difficult withdrawal option, you do not need to exchange the withdrawal amount unless you have multiple withdrawals.
Eligibility for Difficult withdrawal: Purchase of private residences. Tuition fees and rooms and boards for the next 12 months postsecondary education for you and your dependents. Previous medical costs incurred for you and your family. Costs for repairs to the main residence from the victim. Costs or losses related to a federally declared disaster. Prevent evictions; pay funeral costs to families.
Early Penalty Exception: If you make a direct or personal rollover to your IRA, you will not be eligible for an early penalty of 10% penalty. Direct rollover means distribution was made directly by the custodian, and the withdrawn funds were not accessible. With a personal rollover, you can receive your withdrawal directly yourself and transfer the funds to the IRA custodian for 60 days. In this situation, 20% of the amount withdrawn will be withheld due to federal income tax.
Other exceptions to early withdrawal penalty: total disability. Separation from over 55 services. Public service employees who have been separated from the service after age 50. Medical expenses exceeding 7.5% of adjusted total revenue. Qualified birth or exemption distribution. And essentially equal payments. A substantially equal payment refers to receiving a series of substantially equal payments, at least annually, based on life expectancy following separation from the service.
Company Loan Options: If you are not entitled to a difficult withdrawal or even so, you can consider a loan option. One of the benefits of the loan option is that it does not incur any immediate federal income taxes associated with difficult withdrawals. The maximum amount on a loan is less than 50% of your vested account balance or $50,000. The loan must be paid within five years unless the loan is associated with the purchase of a primary residence. If you quit your employment before your loan is repaid, you will be charged income tax on the amount you are not repaid. You pay interest on the loan, but the interest paid will be added to your account balance, so you should not worry about high interest rates as you are receiving interest rather than your employer.
Elliot Raphaelson welcomes your questions and comments at rapelliot@gmail.com.
