Advanced Underwriting Consultants

Question of the Day – October 18

Ask the Experts!

Here’s the question of the day.

Question:  My client is a policy officer who just retired at age 50.  His former employer sponsors a Section 457 plan and a Section 401a plan.  If the client rolls over the 401a plan to the 457 plan, will subsequent distributions from the 457 plan be exempt from the 10% penalty tax?

Answer:  Yes.

Normally, a rollover to a governmental Section 457 plan must be accounted for separately, and distributions from that rollover (or earnings thereon) prior to age 59 ½ will be subject to the penalty tax.  Here’s an excerpt from IRS Publication 558:

To discourage the use of retirement funds for purposes other than normal retirement, the law imposes a 10% additional tax on certain early distributions of these funds. Early distributions are those you receive from a qualified retirement plan or deferred annuity contract before reaching age 59 1/2. The term “qualified retirement plan” means:

  • A qualified employee plan under section 401(a), such as a section 401(k) plan
  • A qualified employee annuity plan under section 403(a)
  • A tax-sheltered annuity plan under section 403(b) for employees of public schools or tax-exempt organizations, or
  • An individual retirement account under section 408(a) or an individual retirement annuity under section 408(b) (IRAs)

While an eligible State or local government section 457 deferred compensation plan is not a qualified retirement plan, any distribution attributable to amounts the plan received in a direct transfer or rollover from one of the qualified retirement plans listed above would be subject to the 10% additional tax.

However, the 401a account balance is exempt from the 10% penalty tax because it qualifies for the age 50 public safety employee exception to the penalty tax rule.  Therefore, distributions from the rollover will be penalty tax free.

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