When someone talks about 401k laws or 401k rules the tendency is stop in your tracks because it sounds so alarming and restrictive.
But you should not be alarmed because 401k laws and 401k rules just address basic issues that investors should be aware of; they are actually designed to protect you as an investor. If you are aware, you will not be blindsided. Let’s make you more aware.
Some of the issues addressed by 401k rules include:
- When you have to pay 401k taxes.
- When a 401k penalty may apply.
- The annual 401k maximum contribution that you are allowed.
Retirement investing is hard enough without having to learn all the rules and regulations. Let’s simplify it for you and just focus on those 401k rules that affect you as an individual investor.
The 401k Rules You Need To Know:
401k Taxes|401k Rollovers
- You could incur a 401k tax if your 401k rollover is handled incorrectly. You need to understand when a tax will apply, so that you can avoid it.
- Human Resource departments handle the paperwork for 401k rollovers; however not all Human Resource departments understand 401k taxes; so you need to.
- The paperwork generally has to come from the 401k plan that holds your 401k account balance.
- If you changed jobs and your 401k account is in your old employers 401k plan, you would have the old employers Human Resource department get you the rollover paperwork.
- You want to request a Direct Transfer or Trustee-to-Trustee transfer between institutions when making a 401k rollover. This is the absolute best way to avoid mistakes.
- Sometimes a Direct Transfer is called a Trustee-to-Trustee transfer.
- What happens is your 401k account balance gets transferred directly from one 401k plan to the next.
- With a Direct Transfer or Trustee-to-Trustee transfer, YOU DO NOT TAKE POSSESSION of the money.
Never take possession of the money. Taking possession means, having only your name on the check; or having the check sent to you. If you take possession of the funds and do not redeposit them in time, the IRS could consider that an early withdrawal.- You will be taxed on an early withdrawal.
- If you are under the age of 59 1/2 you will be taxed, plus subject to a 10% withdrawal penalty.
- See how expensive it can be if you do not follow the 401k law that applies to 401k taxes??
401k Tax Penalties
- You can be subject to a 401k penalty if you tap into your 401k plan when you aren’t suppose to.
- The IRS has set age 59 1/2 as the benchmark date for a 401k withdrawal.
- If you take a 401k withdrawal before age 59 1/2 you will be subject to a 10% withdrawal penalty.
- If you take a 401k withdrawal after age 59 1/2 you will not incur that 401k penalty.
- If you take out a 401k loan, you are not subject to the 10% penalty unless you default on the loan.
401k Contribution Limits
- Maximum 401k contribution limits are set up by the IRS and may be adjusted every year to keep up with inflation.
- For 2010 and 2011 the maximum 401k contribution limit is $16,500 with a catch-up contribution limit of $5,500 is you are over age 50.
- You cannot exceed these 401k contribution limits; if you do you could be taxed or miss out on any employer matching opportunities.
As you can see, the purpose of 401k laws is to cover the rules, regulations and procedures of a 401k plan. These laws are regulated by the IRS and Department of Labor to protect you. Don’t be afraid of these laws, you may need to rely upon them someday. Get to know these laws, your knowledge of them may save you money in taxes and or penalties.
