F.51 Distribution rules and taxation

Question 1

Which of the following retirement plans allows participants to take penalty-free withdrawals beginning at age 55 if they are no longer employed by the plan sponsor?

A. Traditional IRA
B. Roth IRA
C. 401(k)
D. SIMPLE IRA

Answer 1

C. 401(k)

If a participant separates from service with the plan sponsor in or after the year he or she turns age 55, distributions from a 401(k) plan are penalty-free.

F.51 Distribution rules and taxation

Question 2

If a 401(k) plan participant receives a distribution before age 59 ½, which of the following taxes apply?

A. Federal income tax
B. State income tax
C. Early withdrawal penalty tax
D. All of the above

Answer 2

D. All of the above

If a 401(k) plan participant takes a distribution before reaching age 59 ½, they will be subject to federal income tax, state income tax (if applicable), and a 10% early withdrawal penalty tax, unless an exception applies.

F.51 Distribution rules and taxation

Question 3

Maria is nearing the age when she must start taking required minimum distributions (RMDs) from her retirement accounts according to current tax laws. She wants to know which of her accounts will be affected by this rule. Which of the following accounts will not require Maria to take a minimum distribution once she reaches the age specified by tax laws?

A. Traditional IRA
B. Roth IRA
C. 401(k)
D. SIMPLE IRA

Answer 3

B. Roth

F.51 Distribution rules and taxation

Question 4

Julia is 53 years old and is reviewing her retirement savings options. She’s particularly interested in plans that would allow her to make catch-up contributions due to her age. Which of the following retirement plans would allow Julia to make catch-up contributions?

A. Golden Age IRA
B. Future Growth IRA
C. 403(b) Plan
D. SMART IRA

Answer 4

C. 403(b) Plan

While the 403(b) plan is analogous to the 401(k) in the original question and allows for catch-up contributions for participants aged 50 or older, both the Traditional IRA (represented by Golden Age IRA) and the Roth IRA (represented by Future Growth IRA) do as well. The SIMPLE IRA (represented by SMART IRA) also allows for catch-up contributions, but the amount is less than the others. So, the question as rewritten may be misleading. A better option might be to focus on the specific catch-up contribution limits of each plan to differentiate them.

F.51 Distribution rules and taxation

Question 5

Which of the following is not an eligible rollover distribution from a retirement plan?

A. An in-service withdrawal from a 401(k) plan
B. A required minimum distribution (RMD) from a traditional IRA
C. A hardship withdrawal from a 401(k) plan
D. A distribution from a SIMPLE IRA within the first two years of participation

Answer 5

C. A hardship withdrawal from a 401(k) plan

F.51 Distribution rules and taxation

Question 6

Jennifer is a small business owner looking to establish a retirement plan for her employees. She wishes to fund the entire contribution without requiring employee contributions. Which retirement plan should Jennifer consider?

A. Roth IRA
B. 401(k)
C. SEP-IRA
D. Traditional IRA

Answer 6

C. SEP-IRA

A Simplified Employee Pension (SEP-IRA) allows only employer contributions. The employer makes contributions directly to each eligible employee’s SEP-IRA on a discretionary basis. Roth IRA, 401(k), and Traditional IRA can have individual contributions.

F.51 Distribution rules and taxation

Question 7

Which of the following is not an eligible rollover recipient for a distribution from a retirement plan?

A. A traditional IRA
B. A Roth IRA
C. A 401(k) plan
D. A 529 college savings plan

Answer 7

D. A 529 college savings plan

F.51 Distribution rules and taxation

Question 8

Which of the following is not a qualified distribution from a Roth IRA?

A. A distribution taken after age 59 ½
B. A distribution taken due to death or disability of the account owner
C. A distribution taken for a first-time home purchase
D. A distribution taken before the account has been open for five years

Answer 8

D. A distribution taken before the account has been open for five years

To be a qualified distribution from a Roth IRA, the distribution must be taken after age 59 ½, due to death or disability of the account owner, or for a first-time home purchase, and the account must have been open for at least five years.

F.51 Distribution rules and taxation

Question 9

Which of the following types of retirement plan distributions is not subject to federal income tax withholding?

A. A direct rollover from a 401(k) plan to an IRA
B. A hardship withdrawal from a 401(k) plan
C. A required minimum distribution (RMD) from a traditional IRA
D. A distribution from a SIMPLE IRA after age 59 ½

Answer 9

A. A direct rollover from a 401(k) plan to an IRA

F.51 Distribution rules and taxation

Question 10

Mark, age 42, has a 401(k) plan with a balance of $100,000. He wants to take a distribution to pay for medical expenses that exceed 10% of his adjusted gross income. Will he be subject to the early withdrawal penalty tax?

A. Yes, he will be subject to the penalty tax.
B. No, he will not be subject to the penalty tax.
C. It depends on whether he rolled over the funds from another retirement plan.
D. It depends on whether he is still employed by the plan sponsor.

Answer 10

B. No, he will not be subject to the penalty tax.

Distributions taken from a retirement plan to pay for medical expenses that exceed 10% of the account owner’s adjusted gross income are exempt from the early withdrawal penalty tax.

F.51 Distribution rules and taxation

Question 11

Alexandra, age 53, decides to leave her job and takes out funds from her 403(b) account. Will she incur an early withdrawal penalty tax?

A. Yes, she will incur the penalty tax.
B. No, she will not incur the penalty tax.
C. It depends on whether she transferred the funds to an IRA.
D. It depends on the rationale behind the withdrawal.

Answer 11

A. Yes, she will incur the penalty tax.

Generally, withdrawals from a 401(k) or 403(b) plan before age 59½ are subject to a 10% early withdrawal penalty unless specific exceptions apply. Since Alexandra is 53 and no specific exception is mentioned, she will likely be subject to the early withdrawal penalty tax.

F.51 Distribution rules and taxation

Question 12

Alexandra, age 42, holds a traditional IRA and is considering taking a distribution to finance her daughter’s first-time home purchase. Will Alexandra face federal income tax on the distribution?

A. Yes, she will face federal income tax on the distribution.
B. No, she will not face federal income tax on the distribution.
C. It depends on whether it’s her daughter’s first home.
D. It depends on whether it’s her daughter’s first home and the distribution is less than $15,000.

Answer 12

A. Yes, she will face federal income tax on the distribution.

Distributions from a traditional IRA taken before age 59.5 are subject to both federal income tax and a 10% early withdrawal penalty, with certain exceptions. The first-time homebuyer exception does not apply when the home purchase is for someone other than the IRA owner or their spouse. In this case, since Alexandra is taking the distribution for her daughter’s first-time home purchase, she would owe both the tax and the penalty.

F.51 Distribution rules and taxation

Question 13

Michelle, age 72, owns a traditional IRA with a balance of $350,000. She recently withdrew her required minimum distribution (RMD) for the year but realized that she took out $6,000 less than the mandatory amount. What penalty will Michelle face due to this shortfall?

A. 25% of the amount not taken
B. 30% of the amount not taken
C. 40% of the amount not taken
D. 50% of the amount not taken

Answer 13

D. 25% of the amount not taken

If an individual does not take at least the required minimum distribution from their IRA, the amount not withdrawn is subject to a 50% excise tax. In Michelle’s case, she would face a penalty of 50% of $6,000, which is $3,000. However, the IRS may waive or reduce the penalty if the account owner can show that the shortfall was due to reasonable error and that reasonable steps are being taken to remedy the shortfall.

F.51 Distribution rules and taxation

Question 14

Tom, age 55, has a 401(k) plan with a balance of $200,000. He retires and takes a distribution of $50,000. What is the federal income tax withholding rate for the distribution?

A. 0%
B. 10%
C. 20%
D. 30%

Answer 14

C. 20%

Distributions from a 401(k) plan are subject to federal income tax withholding at a rate of 20% unless the account owner elects a different withholding rate or elects not to have any federal income tax withheld.

F.51 Distribution rules and taxation

Question 15

Jane, age 30, inherits an IRA from her grandfather. What are her distribution options?

A. She must take the entire balance of the IRA within five years.
B. She must take minimum distributions over her life expectancy.
C. She can take the entire balance of the IRA immediately or take minimum distributions over her life expectancy.
D. She must take minimum distributions over the life expectancy of the original account owner.

Answer 15

D. She must take minimum distributions over the life expectancy of the original account owner.

Non-spouse beneficiaries who inherit an IRA on or after January 1, 2020, must take minimum distributions over the life expectancy of the original account owner. The Secure Act eliminated the option for most non-spouse beneficiaries to “stretch” distributions over their own life expectancy.

F.51 Distribution rules and taxation

Question 16

Sam, age 60, has a 401(k) plan with a balance of $150,000. He takes a distribution of $50,000 to pay off his mortgage. How much of the distribution is subject to federal income tax?

A. $0
B. $25,000
C. $50,000
D. It depends on whether he has any other sources of income.

Answer 16

B. $25,000

Distributions from a 401(k) plan are subject to federal income tax on the portion that represents pre-tax contributions and earnings. In this case, assuming that all of the contributions to the 401(k) plan were pre-tax, half of the distribution ($25,000) would be subject to federal income tax.

F.51 Distribution rules and taxation

Question 17

Emily, age 62, has a Roth IRA with a balance of $200,000. She takes a distribution of $20,000 to pay for medical expenses. What is the tax treatment of the distribution?

A. The distribution is subject to federal income tax and the 10% early withdrawal penalty tax.
B. The distribution is subject to federal income tax but not the 10% early withdrawal penalty tax.
C. The distribution is not subject to federal income tax or the 10% early withdrawal penalty tax.
D. It depends on whether she has already taken her first Roth IRA contribution distribution.

Answer 17

C. The distribution is not subject to federal income tax or the 10% early withdrawal penalty tax.

Qualified distributions from a Roth IRA are not subject to federal income tax or the 10% early withdrawal penalty tax. To be qualified, the distribution must be taken after age 59 ½ and after the account has been open for at least five years. In this case, Emily meets both of these requirements, so the distribution is not subject to tax.

F.51 Distribution rules and taxation

Question 18

Jim, age 50, has a 403(b) plan with a balance of $100,000. He wants to take a distribution of $10,000 to pay for a down payment on a vacation home. What are the tax implications of the distribution?

A. The distribution is subject to federal income tax and the 10% early withdrawal penalty tax.
B. The distribution is subject to federal income tax but not the 10% early withdrawal penalty tax.
C. The distribution is not subject to federal income tax or the 10% early withdrawal penalty tax.
D. It depends on whether he has already taken a loan from the 403(b) plan.

Answer 18

A. The distribution is subject to federal income tax and the 10% early withdrawal penalty tax.

Distributions from a 403(b) plan are subject to federal income tax and the 10% early withdrawal penalty tax unless an exception applies. The exception for a first-time home purchase does not apply to a vacation home. Additionally, loans from a 403(b) plan are not treated as distributions, so the fact that Jim may have already taken a loan does not affect the tax treatment of the distribution.

F.51 Distribution rules and taxation

Question 19

Jordan, age 56, decides to leave her position and withdraws funds from her 403(b) account associated with that employer. Will she incur an early withdrawal penalty tax?

A. Yes, she will incur the penalty tax.
B. No, she will not incur the penalty tax.
C. It depends on whether she transferred the funds to an IRA.
D. It depends on the rationale behind the withdrawal.

Answer 19

B. No, she will not incur the penalty tax.

Due to the “Rule of 55,” employees who leave their job during or after the year they turn 55 can take distributions from the 401(k) or 403(b) plan of the employer they departed from without incurring the 10% early withdrawal penalty. As Jordan left her job at age 56, she falls under this rule and can withdraw without facing the penalty.

F.51 Distribution rules and taxation