Q: I have been notified by my employer that our plant is closing down and I will be laid off. What should I do with the money in my 401(k) plan?
A: You are taking the correct first step by exploring your options and not making a quick decision.
I would recommend that you get a copy of your plan documentation from your employer. This document will outline how your plan is structured and it will assist you and your advisers.
For most people there are the following options:
1. Leave the money in the current plan
2. Take a lump sum distribution
3. Rollover within 60 days
4. Make a direct transfer
n The first option is to leave the money in the plan. The account will continue to have tax-deferred status and it can later be transferred to another plan or IRA.
You would need to
refer to plan documents regarding the rules about leaving the money in the plan. Each situation is different, but this option might place more restrictions and lack the flexibility of other options.
* The second option is to take a lump sum distribution. As the name implies this simply means taking the funds in a lump cash distribution. The problem with this method is that the entire amount (less any after-tax contributions) will be subject to income taxes and a 10 percent penalty if you are under 591/2.
In the case of qualified plans, if you separate from service after age 55 you may be exempt from the 10 percent penalty. Generally, these distributions would be subject to a 20 percent federal withholding. Again, probably not the best option.
* The third option is to do a rollover within 60 days of taking a lump sum distribution. This means that you take a lump sum distribution but within a 60 day “window” you roll over into an IRA or another employer plan.
If you roll the funds within the 60-day window, you avoid the taxes and penalties on the distribution. However, you are still subject to the 20 percent withholding on the lump sum distribution.
If you desire to do a full rollover and avoid all taxes and penalties then you will have to come out of pocket with the 20 percent and wait until you file your tax return to get the withholding back. Again, more complicated than it needs to be, and probably not your best option.
* Finally, you have the option to make a direct transfer to an IRA or to another employer plan. The key here is that you never actually take possession of the funds. They are transferred directly between plan custodians.
The option that I often recommend is to transfer to an IRA, which gives you considerable flexibility. You may also look at converting to a Roth IRA, though this would involve paying taxes today for future tax-free benefits.
This material is not intended to replace the advice of a qualified tax adviser. Before making any financial commitment, consult with your tax adviser.
You may have special options under the rules of net unrealized appreciation. If your plan held such stock, I would encourage you to seek professional advice before doing anything.
Get answers to financial questions on Wednesdays from our columnists who work in the financial services industry. Greg Epps is a registered representative and certified financial planner with Epps Financial Partners. Submit questions to his attention by writing to Business Editor John Vass Jr., Chattanooga Times Free Press, P.O. Box 1447, Chattanooga, TN 37401-1447, or by e-mailing him at jvass@timesfreepress.com.