Question: J.S. in Adams County: I’m 53 and just heard that my company allows people to take out money from their 401(k) starting at age 55. Can this be right?
A: While this sounds like it can’t possibly be true, it is! Typically, if you make a withdrawal from a 401(k) before age 59 ½, you’ll have to pay the 10% early withdrawal penalty. But there’s an exception to this rule called the ‘Rule of 55’ – and it sounds like your employer allows it. Here’s how it works.
If you have a ‘separation of service’ from your current employer in the calendar year which you turn 55 or older – be it due to a retirement, lay off, firing, or quitting – some employers allow you to make withdrawals from your 401(k) (or 403(b)) without having to pay the early withdrawal penalty. (Note: If you’re a qualified public safety worker, this rule typically kicks-in during the year in which you turn 50.) Just remember, however, you still have to pay ordinary income taxes on the withdrawals. This Rule of 55 is essentially just removing the penalty.
And we want to emphasis two really important points that can be easy to gloss over: First, this rule only applies to your 401(k) (or 403(b)) that’s with the employer from which you’re leaving. It does not apply to old 401(k)s with previous employers. And second, it’s only possible in the calendar year which you turn 55 or older – you can’t, for example, leave at age 54 and try to make withdrawals the following year.
We should also note that this Rule of 55 does not apply to IRAs. So, if you decide to take advantage of this rule, do not consider rolling over your 401(k) into an IRA unless you’re already at least 59 ½. You’ll void the rule doing this.
Here’s The Simply Money Point: If the timing is right, the Rule of 55 can be a convenient way to access your retirement money without penalty before age 59 ½. Of course, whether or not you should is another discussion. You need to ask yourself if you’re financially – and mentally – ready to retire early. A fiduciary financial advisor can help you with this decision.