In the final stretch before retirement, many people find themselves torn between excitement and exhaustion. The demands of work often crowd out the very activities they’ve been waiting years to enjoy. According to Age Wave, 75% of pre-retirees say their job keeps them from having more fulfilling leisure time. It’s a period marked by stress and fatigue, with many feeling burned out yet increasingly optimistic about the freedom ahead. For many, travel before retirement becomes less about adventure and more about escape. But as the dream of early retirement takes shape, a critical question emerges: How can you actually access your savings if you decide to step away from work before 59½? That’s where understanding the Rule of 55 can make all the difference.
What Is The Rule Of 55?
Many people are aware that age 59.5 is the magic number for penalty free withdrawals from a retirement account. However, there is another milestone that occurs upon reaching age 55. According to IRS guidelines, if an employee loses their job or retires after reaching age 55, but have not yet reached 59½, they may qualify to take distributions from their 401(k), 403(b), or other qualified employer retirement plans without triggering the 10% early withdrawal penalty.
What are the exceptions to the Rule of 55
The Rule of 55 only applies to the employee’s current or most recent retirement plan. Withdrawals from IRA’s or former employer retirement plans still are faced with a 10% penalty until reach 59.5, unless those dollars were consolidated into the eligible account before employment ended.
Individuals planning for retirement typically pay attention to penalties. To revisit the earlier point, the simplicity of age 59½—when the 10% penalty ends—is far easier to recall than the layered requirements around age 55. Even those willing to pull out the magnifying glass may realize they moved money out of employer-based accounts and into IRAs before noting the exemption. However, if that is the case, not all hope is lost.
Key Strategies for Rule of 55
A popular strategy we use with clients is taking advantage of a reverse rollover. A reverse rollover is a strategy to bring money from an IRA or old employer account into the current employers retirement plan. Most employers allow this while you are still an active employee, so this strategy is best explored prior to separation. However, not all employers allow it, and it is important to review your plan’s specific rules. If your current 401k does not have enough assets in it to bridge you until 59.5, and you have old employer plans or IRA’s that have not been commingled, this strategy is worth exploring.
Here is an example of how this strategy worked for one of our clients. A client of mine worked for Pfizer for 25 years, and was laid off when she turned 53. She had accumulated substantial money in the plan, but was not eligible for rule of 55. A few months later, she took a job with Astrazeneca. She worked for Astrazeneca until she was 55. There was some money in the Astrazeneca plan, but not enough to bridge her until 59.5. Before leaving Astrazeneca, she rolled over a portion of the Pfizer 401k into Azstrazenca’s 401k to give her a larger balance to utilize without penalty for her early retirement.
Frequently Asked Questions (FAQ) Rule of 55
Q: Does the reason for separation impact eligibility for Rule of 55?
A: No. Separation can be due to retirement, a layoff, or just voluntarily deciding to make a change.
Q: Are previous employer plans eligible for Rule of 55?
A: No. Previous retirement accounts are not eligible for Rule of 55 unless they have been consolidated into existing employer plan prior to separation.
Q: Do I still have to pay taxes on my withdrawal?
A: Yes. Rule of 55 avoids the 10% early withdrawal penalty, but the withdrawal is still subject to taxes.
Q: Can I take from IRA at 55 without penalty?
A: No. IRA’s become penalty free at age 59.5. Rule of 55 only applies to your current employer plan.
Conclusion
If you are planning on retiring early, The Rule of 55 is a powerful strategy to give you more access to your savings early. Surprisingly, many advisors do not bring it up. The reason for this is either they are unaware, or they want their clients to consolidate to an IRA so they have more assets to bill on. If you have already moved your 401k to an IRA, it may be worth exploring if a reverse rollover is still available to you.
If you need help with your retirement income plan, you can schedule a free Retirement Tax and Income Assessment here.
This article is provided for informational purposes only and should not be considered investment advice. Readers should seek advice from a qualified tax and financial advisor about their specific situation. The information provided is not an offer or solicitation of any product or service. This information is being presented without consideration of the investment objectives, risk tolerance, or financial circumstances of any specific investor and is not suitable for all investors. This information is intended to be educational in nature and should not be seen as a recommendation.
