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Withholding on retirement plan distributions.

Anyone planning to change jobs or retire in 1993 and take a lump-sum distribution from his or her employer's qualified retirement plan should watch out. As of January 1, money withdrawn from an employer-sponsored, tax-deferred retirement plan is subject to a 20% withholding requirement.

Before January 1, anyone receiving a pension distribution in cash had 60 days to roll over the funds into an individual retirement account (IRA) or other qualified plan. Employees who changed jobs or retired before 1993 could decide whether to have tax withheld from a lump-sum distribution.

Under the new rules issued on October 15, 1992, amending tax code section 3405(c), unless the distribution is transferred directly into an IRA or other qualified plan, 20% will be withheld automatically. For example, assume Jack has $200,000 in his retirement account when he decides to changes jobs in 1993. If Jack requests the money be paid directly to him, his employer will give him only $160,000. The 20% difference ($40,000) will be withheld and remitted to tile Internal Revenue Service.

Jack will have 60 days to roll over the full account balance of the $200,000 to avoid an income tax liability. This may prove costly because he must restore the missing $40,000 from other sources to complete the rollover. Otherwise, federal and state income taxes, will be due on the $40,000 difference.

Even so, Jack's problems may just be beginning. If he is under age 59 1/2, he'll also be assessed an additional 10% tax for early withdrawal of the $40,000. Jack will have to wait until April 15, 1994 - when he files his 1993 income tax return - to get back the withheld $40,000.

Observation: The problems associated with the new law are, easy to avoid. Former employers should be told to transfer funds directly and in full into an IRA or into the new employer's qualified plan. Also, departing workers should check to see if the funds can remain in the former employer's plan until arrangements are made for a future direct transfer.

Finally, the new law requires all employers to furnish pension recipient with written explanations of their options regarding plan distribution at least 30 days before, disbursing any funds.

(For a related story, see "Withholding and Deposit Practice Guide Issued," page 100.)
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Publication:Journal of Accountancy
Article Type:Brief Article
Date:May 1, 1993
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