"In Service" 401k Withdrawals—a little known liquidity option
By law, you can not take 401k withdrawals, that is, pre-tax salary deferrals, before severance, plan termination, turning 59 1/2, death, disability or hardship (and you can’t roll over hardship withdrawals). However, there are ways to get money out of your 401k plan prior to retirment -- through loans and hardship withdrawals. Additionally, if the plan permits, through non-hardship "in service" 401k withdrawals.
If permitted by your company-sponsored retirement plan, in-service, non-hardship 401k withdrawals can give you pre-retirement access to your retirement assets. With an in-service, 401k withdrawal, you can request a distribution from your retirement account while you are still employed. However, not all company-sponsored etirement plans offer these in-service 401k withdrawals.
This type of withdrawal is treated as ordinary income and will trigger a tax liability. In addition, if you’re under age 591/2, you could be subject to a 10% early withdrawal penalty. However, by taking the 401k withdrawal as a 401k rollover, for example into an IRA, you continue to benefit from tax-deferred growth without an immediate tax liability or penalty. You CAN rollover (or otherwise withdraw) employer contributions, or employee (after-tax or rollover) contributions. And you can do so without any required taxes or penalties.
Why would individiuals want to make a 401k withdrawal prior to retirement?
- More flexibile investment choices that may not be offered in your 401k plan
- Diversify Concentrated Positions: Some plans have limited investment options.
- Others specify that certain contributions must be invested in company stock (e.g., employer matching contributions) and you may have accumulated too much in one asset for prudent diversification
- Asset Consolidation: IRA rollovers can be used to help you consolidate your retirement assets. It then becomes easier to develop a comprehensive retirement income strategy, monitor performance, rebalance as needed, and calculate required minimum distributions.
- To simplify estate planning
- Professional Guidance: You may choose to have your retirement plan assets managed by a professional and need to make a 401k withdrawal to make that possible.