by Gary Foreman

If you have a 401k, eventually, you’ll need to take 401k retirement distributions. Not exactly sure what that means or how it will work? Here are five 401k retirement distribution options and two sets of rules to know.

According to most estimates, between 8,000 and 10,000 people reach retirement age daily. You can bet that many of the new retirees will be wondering how to access the money they’ve saved during their working years.

So, let’s examine 401k withdrawals in retirement.

2 Sets of Rules You’ll Need To Heed When Withdrawing Money From Your 401k

The first set is from the plan itself. To find out what those rules are, you’ll need to contact your plan administrator. You’ll find their contact information in your account statement.

Most of those rules won’t be a problem. They may limit how often you withdraw or set minimum amounts you can take out. It’s also possible that some things that are allowed by law won’t be available in your plan.

The second set of rules comes from the IRS code. And, as you might expect, they tend to be more complicated.

The first thing to know about your 401k is that you can withdraw money at any age. But, if you aren’t 59 1/2 or older, you’ll pay an early withdrawal penalty of 10% unless you qualify for the lump sum distribution beginning at age 55.

You can’t leave the money in the 401k forever. Federal law requires you to begin taking distributions the year that you turn 73. You’ll need a table to get the exact amount, but it will be based on your life expectancy. For instance, if you’re expected to live 15 more years, you’ll be required to take about 1/15th of the value of the account this year.

Any amount withdrawn will be added to your taxable income for that year. So, if you can, you want to take smaller amounts for many years. That will keep you in lower tax brackets.

Tax Laws Allow for 5 Basic Options for Your 401k When You Retire

You may choose to:

1. Take a lump sum distribution.
2. Leave your money in the 401k.
3. Roll the money into a self-directed IRA.
4. Take regular distributions.
5. Buy an annuity.

1. Take a lump sum distribution.

Taking out all of your money is the quickest way to get at your money, but it triggers two disadvantages.

First, because all that money will be added to your taxable income, it could push you into tax brackets meant for the wealthy. Second, the law requires that the IRS withhold 20%, which will be applied to your next year’s tax bill.

2. Leave your money in your 401k.

Unless your plan forbids it, you could just leave the money in the account. The biggest advantage to this is that your money will continue to grow on a pre-tax basis. That can be a huge advantage over 20 or more years.

The disadvantage is that you’ll be limited to the investment options offered within your plan. You also may be subject to higher fees to manage your money and will ultimately be required to take withdrawals when you turn 73.

3. Roll the money into a self-directed IRA.

Moving the money directly into an IRA has no tax consequences. And, once there, you’ll have more choices about investing your money. Some IRAs even allow you to invest in gold, silver or physical assets. And, like the 401k, your money will grow on a pre-tax basis.

One disadvantage is that you’ll probably need to liquidate the assets you hold in your 401k and transfer them into the IRA as cash.

4. Take regular distributions.

Typically, you’ll make them monthly or quarterly. You can adjust the amounts annually and are not subject to withholding, so you get to use all of your money until tax day.

The advantage is a steady, predictable income. The only disadvantage is that the value of your account gradually shrinks.

5. Buy an annuity.

You can use part or all of the money in your 401k to buy an annuity. Various types of annuities are available. Generally, they’ll pay you a preset amount each month/year for the rest of your life. The predictable income is nice, but remember that even 3% inflation will double prices every 25 years. So your checks will buy a little less each year.

The advantage is a predictable income stream. The disadvantage is (for fixed annuities) the amount that you can buy with that income will diminish as inflation raises prices (remember the $1 loaf of bread). 

Consider your options carefully. How you handle your 401k account when you retire is a major decision. It will affect your income for the rest of your life.

It can also affect other financial affairs. For instance, creditors can’t access your 401k account, but in some cases, they could access an IRA. So, if you’re heavily in debt, a rollover to an IRA might be a bad idea.

Your financial advisor can advise how your unique situation applies to the law and your 401k plan. You don’t want to make a bad decision. Some bad decisions cannot be undone.

• Required Minimum Distribution Strategies
• How To Minimize 4 Risks to Your Retirement Savings
• Managing Your 401k In Your 50s
• When To Begin Taking Social Security Distributions
• How a Distribution Plan Can Maximize Retirement Plan Assets

Reviewed January 2024

About the Author

Gary Foreman is the former owner and editor of the After50Finances.com website and newsletter. He's been featured in MSN Money, Yahoo Finance, Fox Business, The Nightly Business Report, US News Money, Credit.com and CreditCards.com.