Thread by @money_cruncher

"401(k)s are a scam because you can't retire early with them"

People who say this have no clue about the Rule of 55 or Section 72(t) SoSEPP.

If you’re using a 401(k), you need to know about them.

Here’s a quick overview:

Most people understand some of these things about 401(k)s:

> receiving a 401(k) match is 25-100% ROI
> tax free growth
> tax arbitrage

But the fact that you can't withdraw (say, due to early retirement at 50) turns off a lot of people, especially young people.

There are two things you need to learn about 401(k)s that will change that:

1. Rule of 55
2. Series of Substantially Equal Periodic Payments (SoSEPP), also known as Section 72(t)

They are incredibly powerful.

Let's start with the Rule of 55.

It's a simple tax code exception, called "seperation of service" that says "if the employee separates from service during or after the year the employee reaches age 55" you can withdraw from your 401(k) without a 10% penalty.

So, you don’t have to wait until 59½ to retire early and withdraw from your 401(k).

You can do it at 55 without a penalty.

But what if you maxed out your 401(k) for 25 years, invested, and want to retire at 50?

This is where the 72(t) rule comes into play.

The 72(t) rule allows you to withdraw amounts without being subject to the 10% penalty at any age.

To calculate the amount you can withdraw, you need:

1. The applicable interest rate
2. Life expectancy
3. Method
4. Account balance subject to 72(t)

The interest rate is not more than the greater of:
- 5% or
- 120% of the federal mid-term rate

The life expectancy is calculated by a few different methods (Uniform/Single Life/Last Survivor)

3 methods to establish these payments:

- Minimum Distribution Method

- Amortization Method

- Annuity Method

Amortization or Annuity methods are static, and require no recalcs every year.

For the account balance, you can determine the portion of your IRA subject to 72(t).

No further deposits or withdrawals can be made to that account.

It must be maintained for a minimum of five years or until age 59½, whichever is later.

Using a 72(t) calculator with a 5% interest rate, age 50, and an account balance of $150,000, you would have roughly ~$9,760 in permissible withdrawals that wouldn’t be subject to the 10% penalty.

Higher account balance = higher withdrawal
Higher age = higher withdrawal

Overall, these 2 methods allow you to be more flexible with your 401(k).

If you enjoyed this post, please:
1. follow me @money_cruncher
2. retweet the first tweet so others can learn