作者 Ivy Grace
地点 Detroit
A 57-year-old engineering manager was laid off last month after 22 years with his company. He has $1.1 million in his 401(k), a $40,000 severance package and a market that's still choppy. His brother told him to roll the entire 401(k) into an IRA immediately.
That advice sounds reasonable, but moving the money too quickly could cost him a valuable tax break.
Because he left his job after turning 55, he may be able to take penalty-free withdrawals from his former employer's 401(k) before age 59
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A 57-year-old engineering manager was laid off last month after 22 years with his company. He has $1.1 million in his 401(k), a $40,000 severance package and a market that's still choppy. His brother told him to roll the entire 401(k) into an IRA immediately.
That advice sounds reasonable, but moving the money too quickly could cost him a valuable tax break.
Because he left his job after turning 55, he may be able to take penalty-free withdrawals from his former employer's 401(k) before age 59½ -- an exception that generally doesn't apply to withdrawals from an IRA.
The Age 55 Rule His Brother Didn't Mention
Withdrawals from retirement accounts before age 59½ generally face a 10% additional tax. But the IRS provides an exception for employees who separate from service during or after the year they reach age 55. The exception can allow penalty-free withdrawals from the employer's qualified retirement plan.
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The exception generally doesn't carry over when the money is rolled into an IRA.
If he rolls his entire 401(k) into an IRA and later needs money before 59½, he could lose access to that particular exception and potentially owe the 10% additional tax on withdrawals that would have qualified for the exception if the money had remained in the 401(k).
How Much Could That Cost?
Suppose he needs $60,000 a year to cover expenses until he finds another job or reaches 59½.
If the full withdrawal would otherwise be subject to the 10% additional tax, taking $60,000 from an IRA could mean $6,000 in additional tax each year, on top of ordinary income taxes. Over two and a half years, that could add up to $15,000.
Keeping enough money in the former employer's 401(k) to cover potential withdrawals could preserve the age-55 exception while allowing him to roll other funds into an IRA.
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Doing The Rollover The Right Way
For money he does move, the rollover method matters.
The IRS generally recommends a direct rollover, where the plan sends the money directly to the new retirement account. No mandatory federal income-tax withholding applies to the amount transferred directly.
If he receives the money himself instead, the plan generally must withhold 20% from an eligible taxable rollover distribution. He can still complete a 60-day rollover, but he'd generally need to replace the withheld amount with other money to roll over the full distribution and avoid having that portion treated as taxable.
He should also check his former employer's plan rules before deciding how much to withdraw. The plan may have specific procedures for distributions after separation from service.
Protecting His Portfolio While He's Between Jobs
A layoff at 57 changes the equation. With no paycheck coming in, he may need more accessible cash while also protecting his retirement portfolio from having to sell investments during a downturn.
Keeping some emergency savings outside the market can provide a buffer while he looks for work. His $40,000 severance could help cover near-term expenses, although how much to keep in cash depends on his spending needs and other resources.
If he keeps cash at an FDIC-insured bank, standard deposit insurance generally covers up to $250,000 per depositor, per insured bank, for each ownership category.
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Health Coverage And Social Security
Health insurance is another major consideration. At 57, he's still years away from Medicare eligibility, so the cost of maintaining coverage after a layoff needs to be included in his spending plan.
Social Security timing matters too. For someone born in 1960 or later, full retirement age is 67. Benefits can begin at 62, but claiming at that age reduces the retirement benefit to 70% of the full amount.
That gives him several years to potentially use savings, return to work or pursue other income before deciding when to claim.
Getting A Second Opinion Before The Rollover
A 401(k)-to-IRA rollover can affect taxes, investment choices, fees and access to retirement funds. For someone who has just lost a job at 57, the age-55 exception makes the decision particularly important.
The SEC says investment advisers have a fiduciary duty that includes a duty of care and loyalty and requires them to act in their clients' best interests.
Advisor.com's free, five-minute quiz can match you with a vetted fiduciary adviser. Before moving the $1.1 million, he should compare the tax consequences, fees, investment options and withdrawal rules of keeping at least some money in the 401(k) versus rolling it into an IRA.
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