401k Withdrawal

If you are considering a 401k withdrawal, your options depend upon several key factors.  Circumstances that might cause you to withdraw your funds from a 401k include a layoff, job change or retirement.  Certain 401k withdrawal rules also apply to 401k hardship withdrawal, borrowing from 401k and 401k early withdrawal.

401k Withdrawal Rules

Funds from a 401k can be rolled over into another retirement account at any time.  However, your options depend on your circumstances and age at the time of withdrawal.  If you are laid off, changing jobs or retiring, the following rules apply:

Options for Ages 59 ½ to 70 ½

1.  Lump Sum Distribution – If you choose this option, your plan provider will write you a check for your funds minus withholding tax.  This withholding pays the applicable income tax on the value of your 401k.  However, you must still include your lump-sum distribution as ordinary income on your tax return.

2.  Leave Funds in Previous Plan – As long as you have more than $5,000 in your 401k account, you can leave it in your previous employer's plan.  Amounts under $5,000 will be automatically distributed to you.

3.  Rollover – You can rollover your funds into another retirement account with no penalty.

Options for Those Under 59 ½

The same rules apply here; however, a 401k withdrawal under the age of 59 ½ is considered an early withdrawal.  If you choose a lump sum distribution, there is a 10% penalty imposed in addition to applicable income taxes.

Options for Ages 70 ½ and Older

Withdrawal rules apply to this age group.  In addition, anyone over 70 ½ will need to take required minimum distributions starting the year after they turn 70 ½.  You will be taxed 50% of the required minimum distribution.  You may do a rollover into another retirement account, but are still required to take the minimum distribution.

401k Hardship Withdrawal

The law allows hardship withdrawal in a limited amount of situations.  But to discourage it, there is a 10% 401k early withdrawal penalty.  State and local taxes will also apply.  Certain circumstances may exempt you from the penalty, such as total disability, excessive medical expenses or court-ordered withdrawals.

Borrowing from 401k

Most 401k plans allow the participants to borrow funds from the account, then pay themselves back.  Generally, you may borrow up to 50% of the account value or $50,000, whichever is less.  Loans must be paid back within five years unless the loan is for a home.  One advantage to borrowing from your 401k is that the interest you pay yourself is tax-exempt until retirement, when you take your money out.  Of course, borrowing from these funds also has some disadvantages, such as the fact that withdrawing money from your 401k lowers your account balance, thus affecting your investment returns.

There are many factors to take into account when considering a 401k withdrawal.  Whether you are at retirement age, changing jobs or in a hardship situation, various withdrawal rules apply.
Tim Ord
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