QUESTION: I just turned 55, should I transfer my entire former employer 401k plan to a checkbook IRA?
ANSWER: Known as the “age 55 rule”, this rule should be considered if you need to take a distribution from a former employer 401k retirement plan.
So if you are 55 years old or older in the year you left your employer and need to take a distribution from your former employer 401k plan because you have no other means of getting the fast needed cash, you will want to leave enough funds in the former employer 401k to cover the amount of funds needed to satisfy your distribution needs and only process of partial direct-rollover of the rest of the funds to a checkbook IRA (also known as a self-directed IRA LLC).
The reason is because distributions from your former employer 401k company plan, when you leave the employer in the year you turn age 55 or later, are not subject to the 10% early distribution penalty if you are no longer employed for that company (or what the tax code refers to as “separation from service”). Note, however, that the distribution would still be subject to federal income taxes.
COMPLIANCE NOTE: Don’t confuse the date of the distribution with the separation from service date (the date you stop working with the company that sponsors the 401k). For example if you stop working when you are age 54 and wait to take the distribution from the former employer when you turn 55 or later, the age 55 exception won’t apply. To qualify for the 10% penalty exception, separation from service must occur in the year the person turns age 55 or older. See Gail Marie Watson V. Commissioner, T.C. Summary Opinion 2011-113, September 28 2011 where the participant separated from service ate age 53 and took a distribution after reaching age 55. Essentially, the court confirmed the date of separation form service is what drives the distribution date.
Age 55 Rule for a Solo 401k Plan QUESTION:
If I cease my sole proprietor business between age 55 to 59.5, I could take solo 401k distributions without incurring the 10% early withdrawal penalty?
Correct but you would need to be able to substantiate to the IRS that you did not simply stop being self-employed to take advantage of this feature since with a solo 401k plan you are bot the employee and the business owner. For this reason, we have never had a solo 401k client exercise this feature.