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Is a 401(k) In-Service Withdrawal Right for Your Situation?

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If you have contributed for a long time to a 401(k) plan, chances are you have built up considerable assets. You are to be commended for this effort. It takes discipline and focus to accumulate wealth over time.

Having reached this point, you may now want to explore options outside of your plan. If you are past your late 50s, you might have an opportunity with an in-service withdrawal. Many people with 401(k) accounts assume that their funds are locked tight until they retire.

What they don’t know is that they might be able to access their funds while still working at their employer. This mechanism is formally called an in-service withdrawal.

But what exactly is an 401(k) in-service withdrawal, under what conditions can you take one, and what consequences are there for doing so?

What is an In-Service Withdrawal?

In the language of 401(k) plans, there are certain life events that are categorized as “triggering” events. During an approved triggering event, you are permitted to roll funds out of your 401(k) without facing a 10% early withdrawal tax penalty. Generally, however, you will have to pay taxes on the withdrawn amount.

On the other hand, an in-service withdrawal is an option that arises when you reach age 59.5. This process doesn’t need an approved triggering event, such as a leave from your workplace or retirement.

You still work for your employer, and once you turn 59.5, you can take a withdrawal from your 401(k) plan. From there, you would have a period of 60 days to move your funds into an IRA. If the 60-day deadline isn’t met, there would be consequences.

As a plan participant, you might be subject to any taxes that accompany a withdrawal.

Not the Same as Hardship Provisions

It’s good to acknowledge that this kind of in-service withdrawal is “non-hardship.” In other words, the withdrawal won’t be used for any “immediate and heavy” financial need as defined by the IRS.  

That said, some 401(k) plans do come with hardship provisions, including for unreimbursed medical expenses, education costs, or purchase of a principal residence. In the event of a hardship, a 401(k) plan may permit penalty-free withdrawals so long as certain conditions are met.

However, not all 401(k) plans carry hardship provisions. Be sure to review your plan documents for the details of your options.

In-Service Withdrawal Not Available with All Plans

To be clear, not all employers offer an in-service withdrawal feature within their 401(k) plans. Each plan is different and has its own rules.

You can tell if your 401(k) plan does by reviewing your plan documents. What’s more, your plan documents will spell out any potential limits or conditions that may apply to an in-service withdrawal.

The good news is many 401(k) plans do come with this feature. A 2016 survey by the Profit Sharing Council of America found that more than 70% of 401(k) plans allow in-service withdrawals.

What are the Approved Triggering Events?

As we talk about the ins-and-outs of an in-service withdrawal, you may wonder about what the approved “triggering” events are. Some of these include:

  • Having your job terminated
  • Becoming disabled
  • Retiring
  • Passing away

Beyond triggering or hardship events there are reasons employees take in-service withdrawals. Yet many employees have no idea this type of withdrawal can even be an option for them.

Reasons for Non-Hardship In-Service Withdrawals

Many retirement savers opt for an in-service withdrawal for a number of reasons. Some may want to preserve their wealth. Some plan participants might worry about holding onto or protecting what they accumulated. Others may want to ensure their retirement income will last as long as possible.

And as for others? They may simply want more options and flexibility. An in-service withdrawal may give them a greater range of potential strategies and financial choices than they currently have in their 401(k) plan.

For example, those who wish to maximize or protect their retirement income may want to purchase an annuity. Currently, annuities lie outside of most 401(k) plans.

A 401(k) has an average of 27 options in its investment line-up, according to the Brightscope and Investment Company Institute.

Other Potential Reasons for an In-Service Withdrawal

Market volatility, like that we have experienced of late, can motivate some plan participants to want to “take the reins” on their funds. They may want to look beyond their plan’s offerings.

Plan fees may be another concern for 401(k) participants who are concerned about their returns. However, the majority of employees could be in the dark when it comes to knowing about plan fees.

"Sixty percent of people don't know they're paying any fees at all in their 401(k) plan," says Laurie Rowley, president of the nonprofit National Association of Retirement Plan Participants.

According to an analysis of 401(k) plans by Brightscope, large plans have an average fee below 1%. Smaller plans have fees averaging between 1.5% and 2% of the account balance. But other plans can be up to 3.5% or more per year.

And there are different types of 401(k) plan fees being charged: administrative fees, investment fees and service charges, assessed, for example, when you take a loan from your plan.

By design 401(k) plans have a structure that allows for minimal individuality. You may get to choose a category of funds. However, options for more advanced planning options, such as a stretch IRA, typically aren’t available within an employer-sponsored retirement plan.

The Drawback to In-Service Withdrawals

Of course nothing comes without disadvantages. An in-service withdrawal is no exception. So, what are some downsides to potentially opting for a 401(k) non-hardship, in-service withdrawal?

Technically, IRAs don’t let you take out loans. On the other hand, you can take out a loan from your 401(k). Taking a 401(k) loan isn’t a decision that should be made in haste, though. With that said, you can use your IRA funds for certain purposes.

The IRS does permit penalty-free distributions from your IRA for qualifying education costs and first-time home purchases, for example. These situations follow strict rules. Not only that, all potential advantages and downsides should be thoroughly evaluated with professional financial and tax guidance before any decision.

Other Potential Downsides

Even though a large number of 401(k) plans may offer an in-service withdrawal feature, not all do. Be sure to check your plan documents if this is possible for you. If you don't have plan documents, ask your HR department for them.

As mentioned previously, withdrawals may be subject to taxation if they don’t meet the 60-day rollover deadline. The amount paid in taxes would reduce the balance that is withdrawn. In other words, you wouldn’t have the whole amount withdrawn to work with.

Another possibility? When you withdraw funds, you might pay an “opportunity cost.” That could be a missed opportunity of having that balance potentially growing with any investment growth in the 401(k) portfolio.

In light of recent U.S. Supreme Court rulings, 401(k)s are thought to have high-level protection against creditors seeking repayment of debts you may owe. IRAs and pension plans are also protected, but there are many qualifying rules making this protection less ironclad.

If your creditor is the government or any government organization, there is no protection at any level from the long arm of Uncle Sam.

Need Help Exploring Your Options?

For 401(k) plan participants who want to be able to withdraw their money from their company-sponsored plan—while they are still working there—in-service withdrawals offer a potential solution to filling that need. Of course, an in-service withdrawal is only a means to an end. And it should be carefully considered before you commit to one. Think about seeking professional financial and tax guidance as you consider your options.

As you get closer to retirement, it's important to start planning your retirement income strategy. Or you may need a refined or updated income plan that helps you achieve your specific retirement goals. If you would like assistance with exploring options (potentially outside of your 401(k) plan), assessing your current strategy, and taking steps to meet your goals, a financial professional can help you.

Use our "Find a Financial Professional" section to connect with someone directly. You can request a no-obligation appointment or phone meeting to discuss your goals. Should you need a personal referral, call us at 877.476.9723.

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