Q.  Are annual distributions from a 401(k) plan an alternative to a SEPP (“substantially equal periodic payments”) plan?

I will be 56 years old soon and I expect that my job position at my company will be eliminated in the next couple of months. As a result, I am researching if early retirement is an option for me. I contacted my 401(k) plan administrator and found out that they do not provide SEPP plans. However, they do allow partial distributions from a 401(k) plan. From the perspective of the IRS, I am wondering if requesting yearly partial distributions from a 401(k) plan is an alternative to a SEPP plan when the the distribution amount follows the 3% amount rules for early withdrawal after the age of 55.

 

A.  Congratulations on the possible early retirement!  Most 401k plans allow for penalty free withdrawals if you separate from employment after turning 55 years old.  These withdrawals don’t have to be equal or annual, just like when you withdraw from an IRA after 59 1/2 years old.  Since you’ll be taxed on the withdrawal, it may make “tax-sense” to do them annually to keep you in a lower tax bracket.

If you still prefer a SEPP, you could simply roll your 401k to an IRA after you leave employment.  Then you could set up a SEPP.  However, unless your 401k had terrible investment options and/or high fees, I doubt a SEPP would be a better plan.  The flexibility of 401k withdrawals after turning 55 years old is a great benefit.  Once you turn 59 1/2 years old, you could rollover the remaining 401k balance to an IRA to increase your investment options and perhaps decrease your investment expenses.

Best of luck with your analysis and contact me if you have any other questions!

 

John is a CPA and personal finance coach.  Email your questions to john@60minutefinance.com.

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