Avoid the "Triple-Whammy!" - Don't Cash-In That Retirement Plan Early

Have you ever heard of the “Triple-Whammy”?

No?

Well, I can tell you it’s NOT one more than “Double-Jeopardy”…nor one less that the “Four Horsemen of the Apocalypse.”

Ok, I must confess I just made the term up. But I believe it accurately describes what happens if you take an early distribution from your individual or company retirement plan because of a job change or layoff.

Let me explain…

The IRS and Congress designed retirement plans to encourage people to save for the long-haul because our Government recognizes that Social Security will not pay all the bills. Retirement plans were never designed as savings account to use whenever you feel like it, but there are special provisions to access the money early under certain circumstances. If you would like to see if you qualify for one of these special provisions, please contact your local PRO-TAX office or call 1-800-809-2829 and we will be glad to assist you.

Since the Government doesn’t want to be completely responsible for you in your Golden Years, the IRS “encourages” you to not touch your retirement money early (before age 59 ½) by penalizing you if you do.

Whammy #1

The first is a 10% PENALTY on any premature distributions (before age 59 ½) not covered by one of their exclusions.

Whammy #2

The second penalty is that you will be taxed on the full distribution in the year taken. At first this may not be seen as a penalty, BUT you earned this money over many years and relatively small deductions. Now you are taking a distribution of more than one year’s contribution but must pay the taxes as if you earned it all in one year, which could dramatically increase the amount of taxes you pay on these funds.

Here’s a simple example:

You took a tax deduction for $2,000 for money invested in your retirement account.  You earn $30,000 per year so you’re in the 15% Federal Tax bracket. Your tax savings for that contribution is $300. Not bad right?

Fast forward 10 years, your account has $30,000 (contributions plus interest) in it and your income has gone up to $40,000. Then, as your company struggles in a tough economy, you get laid off and decide you need to use the money to pay down your mortgage and keep up with your bills.

Get ready, because here’s when you get hit HARD!

You take a distribution of $30,000. (I know you needed the money and you’re being responsible for your bills.)

You receive a 10% penalty $3,000. (Which doesn’t seem too bad…right? You can tell yourself that’s just part of your interest, not YOUR contributions.)

But you end up paying taxes on the full distribution all in one year so your total income is $70,000 ($40,000 income plus $30,000 from your retirement plan) which now puts you in the 25% marginal tax rate, so you must pay Federal taxes of $7,500 plus the $3,000 early withdrawal penalty, leaving you with a net of only $19,500.

Well…$19,500 is still pretty good…right?

Not for YOU…but it’s GREAT for the Government.

Wait…we’re not done!

Whammy #3

Over the last year, the MOST PAINFUL “whammy” is the fact that most retirement accounts tied to the stock market may have lost from 25%-50% (or more!) of their value.

The BOTTOM LINE is this…Don’t take an early distribution from your retirement account unless you absolutely must!

You have many options to avoid taking an early distribution from your retirement plan, plus you also have several exclusions where the 10% penalty is waived. Contact your local PRO-TAX office or call 1-800-809-2829 if you have any questions about a retirement plan distribution or possible tax consequences.

PRO-TAX also offers a FREE Retirement Plan Tax Estimator for any retirement plan distribution or contributions. Call your local PRO-TAX office today, BEFORE you take a distribution and we’ll make sure you avoid the “Triple-Whammy.”

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