Q. I am a widow, age 57. I will receive six months of severance beginning Feb. 1. I then have enough nonretirement savings to make it through the remainder of the year.
From reading your column and other financial news, I know I can take my 401(k) plan, roll it to an IRA and then begin substantially equal periodic payments (72t) prior to age 59 1/2 and avoid the 10 percent early withdrawal penalty.
My problem with this is that it is my understanding that if I did so, I would need to continue the payments until age 59 1/2 or for five years, whichever is greater, correct? If this is correct and if I were to begin this at age 58, I’d need to continue receiving the payment until age 63. I plan to take widow Social Security benefits at age 60. Would the 72t payments make my Social Security benefits taxable? If so, how much, and would I be better off taking the 10 percent penalty so I can stop withdrawals from my IRA when Social Security begins and not pay a higher tax?
My husband and I also did an IRA conversion to a Roth in late 2010 after the $100,000 AGI limitation was removed. Am I correct that this money will be available when I’m 59 1/2 free of all penalties and taxes? In summary, my question is, what is the best way to meet my income needs from age 58 to age 60?
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A. You have some good options which will allow you to bridge your income gap until beginning Social Security. When to begin your widow benefits as well as Social Security benefits based on your own earnings is another financial issue. You should meet with a knowledgeable adviser before deciding at which age to begin benefits.
Because your severance pay doesn’t begin until next month, you are probably still officially employed. I briefly mentioned an exception to the early 10 percent withdrawal penalty at the end of my recent column concerning 72t rules, but you may have missed it. If you separate from service in or after the year in which you turn 55, the 10 percent early withdrawal penalty does not apply for distributions from a qualified plan, such as a 401(k). If you roll your 401(k) plan assets to an IRA, this exception is no longer available even though the IRA was funded with qualified plan assets.
Leave your 401(k) with your employer until you are 59 1/2 and then evaluate the pros and cons of rolling it to an IRA. This will allow you to make withdrawals from the plan assets and avoid the 10 percent early withdrawal penalty before 59 1/2. Of course, you will owe income taxes on any withdrawals, but this will provide more flexibility to meet cash flow needs.
Good news on the 2010 Roth IRA conversion. Any contributions to a Roth IRA may be withdrawn anytime without tax or penalties. Any amounts converted may be withdrawn tax and penalty free after five years from the conversion year. Any IRA funds converted in 2010 may be withdrawn beginning Jan. 1, 2015, regardless of when they were converted in 2010. Since you paid taxes on the converted amount and the five years have passed you can withdraw these funds even though you are younger than 59 1/2. Once you are 59 1/2, the earnings may be withdrawn tax- and penalty-free as well.
Your combined income will determine how much, if any of your Social Security benefits will be subject to taxation. For this purpose, the definition of combined income is your adjusted gross income plus nontaxable interest plus half your SS benefit. For a single tax filer, if combined income is between $25,000 and $34,000, 50 percent of Social Security is subject to tax. If combined income is more than $34,000, up to 85 percent of Social Security is subject to tax. For joint filers the respective combined income amounts are $32,000 and $44,000 and more than $44,000.
Holly Nicholson is a certified financial planner in Raleigh. She cannot answer every question. Reach her at askholly.com or P.O. Box 97128, Raleigh, NC 27624