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I am going to be cashing out my 401k as I need the money to…

Customer Question
I am going to...

I am going to be cashing out my 401k as I need the money to pay my mortgage. I am not sure if there are any other options as far as being able to access the funds without having to pay all the taxes.

Accountant's Assistant: The Accountant will know how to help. Is there anything else the Accountant should be aware of?

I don't know.

Submitted: 4 months ago.Category: Tax
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11/28/2017
Tax Professional: Tax.appeal.168, Tax Accountant replied 4 months ago
Tax.appeal.168
Tax.appeal.168, Tax Accountant
Category: Tax
Satisfied Customers: 4,544
Experience: 3+ decades of varied tax industry exp. Tax Biz owner
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Tax Professional: Tax.appeal.168, Tax Accountant replied 4 months ago

Unfortunately there are not any options for avoiding paying the taxes on the 401k withdrawal. Besides the withdrawn amount being taxed as ordinary income, if you are younger than age 59-/2 years old, there will also be a 10% early withdrawal penalty tacked on. SEE BELOW:

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Cashing out prior to age 59½, even due to separation from employment, could have a drastic impact upon the balance of money received and upon income taxes. The IRS assesses a 10% penalty for early withdrawal (prior to age 59½). Further, the 401(k) plan provider will be required to withhold 20% for federal income taxes and 2% to 8% for state income taxes, depending upon state of residence. Additionally, the employee will receive a 1099R the following tax season that will state that the entire distribution was taxable income – possibly bumping the employee into a higher tax bracket.

REFERENCE SOURCE:

https://www.smart401k.com/resource-center/retirement-strategy/401k-distribution-options

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Customer reply replied 4 months ago
my 401k is worth 170k. Will the 20% federal income tax be taken from the 170k amount only? Or will be currently income be added to the 170k which would put me in a 28% tax bracket for federal income? You also mentioned that the 1099R would be issued which would put my income in a higher bracket. Would that bracket be comprised on the 170k amount even though 20% was already taken out, or would it be based on what I actually get from the 401k after taxes? For example, if I cash out my 401k and get about 90k after taxes, will my taxable income be my current income plus the 90k or would it be my current income plus 170k?
Tax Professional: Tax.appeal.168, Tax Accountant replied 4 months ago

The 20% tax will be withheld from the amount that you withdraw from the 401K. The 20% will be applied toward the amount of taxes due on the withdrawn amount. When you receive the Form 1099-R showing the distributed amount, you should also see the taxes withheld. This would be the 20%. The 170k added with other income determines the tax bracket that you fall under. The tax amount is not taken into consideration when determining the tax bracket. Your taxable income is based on your gross amount of income, not net amount. So in determining what tax bracket you fall under, you would add the $170k to your other income. For a list of 2017 tax brackets, you can refer to the following page.

https://taxfoundation.org/2017-tax-brackets/

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