What Is an In-Service Withdrawal?
An in-service withdrawal allows an employee to take a distribution from a qualified, employer-sponsored retirement plan, such as a 401(k) account, without resigning from their job.
This type of withdrawal may occur without a tax penalty once the employee turns 59½, or in specific cases like purchasing a first home, declaring a hardship, or facing extreme financial necessity. Some plans even permit in-service withdrawals under less stringent conditions.
Not every retirement plan offers this option, but as of 2019, around 70% of employer-sponsored plans in the U.S. did under certain conditions.
Key Takeaways
- In-service withdrawals enable special distributions from a 401(k) account while still employed.
- These distributions are typically linked to hardship situations.
- Certain rules allow for distributions even without declaring hardship.
Diving Deep into In-Service Withdrawals
Legally, standard withdrawals from retirement plans can happen due to job changes, financial hardship, documented financial need, or upon reaching the age of 59½.
In-service withdrawals differ in that they don’t necessarily require a job change or severe financial need. If a plan includes in-service withdrawals, an employee can take out funds to explore more favorable investment opportunities, often by rolling over the amount into an existing 401(k) or a new traditional IRA.
However, it’s important to understand the specifics of what’s allowed under your plan. For instance, rolling over employer-contributed funds (match/save accumulations) to a traditional IRA is allowable. Yet, rolling over pre-tax contributions requires the employee to be 59½ or older.
Before making any decisions, employees need to decipher specific allowances and restrictions of their plan—a process that might entail contacting their 401(k) helpline.
Key Questions to Ask About In-Service Withdrawals
If you’re dissatisfied with your current investment options and want to move your 401(k) funds, you need to get clear answers to these four questions:
- Does my plan permit in-service withdrawals?
- If yes, what are the applicable conditions?
- What accounts can I transfer the funds to?
- What are the tax implications?
Considering that around 30% of plans don’t offer this feature, it’s worthwhile investigating. If your plan does allow non-hardship in-service withdrawals, thoroughly understand the tax related effects which often favor a traditional IRA to avoid new taxes.
Note that opting for Roth IRA invests the distribution with an agreement to handle ensuing taxes, a less favorable route according to many financial advisors who stress prudence here due to past pitfalls encountered by strategic choices that exhibited higher returns theoretically.
Tax Ramifications of In-Service Withdrawals
Withdrawing from a retirement plan before age 59½ generally incurs a 10% early-withdrawal penalty in addition to normal federal and state taxes unless exempted for covering medical expenses surpassing 7.5% of AGI or fulfilling court-ordered payments.
Contributions like non-safe harbor employer matches and profit-sharing accumulations can generally be distributed at any time, making them viable for in-service withdrawals for well-understood alternative investments.
Specifics on how each type of in-service distribution is handled are typically under the summary plan description—which might lack direct tax detainment details usually dictated by IRS parameters.
Retirement Accounts that Facilitate In-Service Withdrawals
Many defined-contribution plans, including 401(k), 403(b), 457(b), and thrift savings plans, accommodate in-service withdrawals, subject to ample prerequisite rules defined by the specific scheme and agenda structuring.
Eligible Timings for In-Service Withdrawals
After reaching the age of 59½ whilst being employed, an individual can initiate these withdrawals problem-free. Prior attempts invite a 10% early-withdrawal penalty additionally to any deferred tax dues.
Contributing while Opting for In-Service Withdrawals
Contributions to the retirement plan continue, constrained by annual limits irrespective of ongoing withdrawals noted for accruing regular taxing, thus reasons emerge from the situational soundness to prefigure withdrawing alongside new contributions as a viable act.
Enabling informed decisions every step down the road aims at optimizing the latitude driven from financial endeavors like in-service withdrawals nurtured with vivid conceptualization shared.
Related Terms: 401(k) plan, hardship withdrawal, traditional IRA, Roth IRA.
References
- Plan Sponsor Council of America. “64th Annual Survey Report”.
- Lord Abbett. “How to Access Your Retirement Account While Still Employed with In-service Distributions”.
- Internal Revenue Service. “401(k) Resource Guide - Plan Participants - General Distribution Rules”.
- Financial Industry Regulatory Authority. “401(k) Rollovers”.
- Internal Revenue Service. “Section 401(k) Compliance Check Questionnaire Final Report, March 2013”, Page 6.
- Internal Revenue Service. “Retirement Topics - Exceptions to Tax on Early Distributions”.
- Internal Revenue Service. “401(k) Plan Overview”.
