I love getting reader questions (thanks KW!)- and I got a great one this week that I thought I would write a few quick words on. “Does my Lockheed 401k allow ‘the rule of 55?'” This rule has become more popular as people try to retire earlier and need to access their retirement funds.

What’s the Rule of 55?

Usually, if people retire earlier than 59.5, they have to be careful how they take their funds from their retirement accounts.  In most cases, you’ll pay a 10% penalty tax for taking out funds from your retirement nest egg as well as ordinary income tax.

You have options if you leave your job after your 55th birthday.

The Rule of 55 is an IRS exception that allows 401k holders that are younger than 59.5 to avoid paying the 10% penalty tax. You must have separated from service (in other words, no longer work there) and be at least 55 years of age.

Depending on how you invested funds in your 401k in the first place (pretax vs. after-tax) you may still have to pay taxes on your distributions.

Also, the separation of service with the employer must have occurred in the year or the year after you have turned 55.

Does the Rule of 55 apply to IRAs too?

Nope – if you have a traditional IRA (or Roth IRA) that you rolled your old 401k into (maybe when you changed jobs), you can’t use the rule of 55 to avoid the 10% penalty. So, if you leave a job and are deciding if rolling over your 401k into an IRA account is the right move for you, you may want to take that into account.

There are other ways to access those funds, including 72t distributions, but those can be complicated and aren’t a fit for everyone. Make sure to work with your tax professional and financial advisor to see what options might be best for you.

What happens if I decide to go back to work?

If you decide to go back to work, you can still take advantage of the Rule of 55. You just need to make sure you take funds from the 401k you started with.

How much can I take out?

You aren’t limited to the amount you can take out of your 401k, but keep in mind (in most cases) those funds will be taxed at your ordinary income tax rate. You want to make sure the rule of 55 withdrawal is part of your overall retirement income plan – so check with your tax professional and financial advisor to make sure it’s best for you.

Does the Rule of 55 apply to my old 401ks too?

No – it only applies to the 401k of the employer you left when you turned 55 or older.

The Rule of 55 might be a good option for you – but like any retirement income plan, it’s a good idea to review it with your tax professional and financial advisor.

The opinions voiced in this material are for general information only. They are not intended to provide specific advice or recommendations for any individual, nor intended as tax advice. We suggest that you discuss your specific situation with a qualified tax or legal advisor.

Related: Check out our other articles around retirement by clicking HERE

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