Did you know that there are ways around early 401k withdrawal penalties?
Today, Tim Berry and Matt Theriault explain multiple ways to avoid these penalties. Plus, find out the hidden dangers of paying off your mortgage early. Hear it all with Epic Real Estate on Tax Hacker Tuesday!
What You Will Learn About How to Avoid Early 401K Withdrawal Penalties:
- An easy way to get around the 20% withholding rule
- 2 ways to avoid the 10% early withdrawal penalty
- The dangers of paying off your mortgage in full
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Speaker 1: This is Theriault Media.
Did you know that up to 50% of your lifetime income will be wiped out by taxes? What if you could stop this madness? Isn’t it about time you play on a level playing field with the wealthiest 1%?
Now, you can. Tim Berry, attorney-at-law, shares here each and every week current tactics and strategies that anyone can implement to hack the tax code. Protect your assets and keep what’s rightfully yours. It’s time for Tax Hacker Tuesday.
Matt Theriault: Hello, and welcome to the Epic Real Estate Investing show. It is another day, another Tuesday. That’s Tax Hacker Tuesday with my attorney, and friend, Tim Berry. On Mondays here at Epic, we show you new and creative ways, as well as time-honored ways of making money using real estate, and on Tuesdays, we show you how to keep it.
Tim Berry: Hey, Matt. How are you, sir?
Matt: Doing well, thank you. Good to see you again.
Tim: Can you see me?
Matt: I actually can see you. They can’t see you, but I can see you. That is a beautiful piece of art behind your desk. There’s got to be a story about this fish you have back there.
Tim: Oh, there is a story. There was a client who made these, and I was fortunate enough, out of his good will he said, “Hey, Tim. Have this fish.” I love these things, actually. I wanted four or five of these, but my wife wasn’t quite on the same plane as I was, of a mental plane, shall we say.
Matt: Got it. I would imagine that the artist’s wife wasn’t on the same plane either. They said you need to start giving some of these things away.
Tim: What are you saying, Matt?
Matt: No, I love it. It’s very colorful. Of course, if you got a question for Tim, you can go to TaxHacker.com/Questions and post it there, and then we’ll answer it here live on the show. This question actually came, snuck in the back door, via email. It says:
“Hello, Mr. Theriault. I hope this message finds you well. I’ve been listening to your podcast for a few months now. In one of your recent Tax Hacker Tuesday podcasts, featuring Tim Berry, who talked about 401Ks and IRAs, which led to this question: Is it possible to avoid the 20% withheld amount and/or the 10% penalty for early 401K withdrawal?”
So that’s one question there, Tim. Should I go on and read and just put the whole thing in context?
Tim: Yeah, put the whole thing in context, please.
Matt: Okay, so that’s really the question. Then he adds an explanation for this. He says:
“I’m no longer employed by a US company, therefore, I have not contributed to my 401K in a year. Plus, for the next three years, my wife and I will be Expats in Germany. We are renting our house in the US, and our rent in Germany is paid for by the company. Our goal is to pay off our mortgage in the US, using the funds from my 401K. Is there any specific advice you can provide in this situation? Thanks for all that you do for the REI community. We enjoy learning from you and your featured guests.”
So, Mr. Featured Guest, do you have a response to that? Did you understand that, because that was a mouthful.
Tim: I did understand that.
Tim: The answer is going to be a mouthful. A bunch of things we could do-
Tim: The first one, super easy one, how do we avoid the 20% withholding? What is 20% withholding? That’s number one.
Matt: That’s sweet.
Tim: Yeah, it’s a really neat way to do it. Now, number two, the 10% withholding … A little bit easier. Matt, what was fine gentleman’s name?
Matt: This is Mr. Christopher Stokes.
Tim: Mr. Christopher Stokes. How old is Mr. Christopher Stokes, man? You know that, don’t you?
Matt: I do not know that, no.
Tim: Oh, no. Okay. Let’s talk about Mr. Christopher Stokes’ age. If he’s under 59 1/2, and he takes that money, he’s going to be hit with that 10% early withdrawal penalty. There’s a neat little exemption, and I say neat … I’ve seen this done a number of times, but I have yet to see it done right. Everybody blows up. There is a provision that says if you start taking out separate and equal payments from your IRA each and every year, and those payments go for the greater of five years, and you’re past 59 1/2, then you don’t have to pay the 10% early withdrawal penalty.
If Mr. Stokes is only 57, 55, 54, and he starts taking out an equal dollar amount each year from the retirement plan, we can ignore that 10% penalty. It’s not going to apply. That’s one idea. But if Mr. Stokes is 39 years old, it’s not going to really happen. The reason I say it’s not really going to happen is if you take out just one cent that’s not separate and equal from all other years … If you have a disproportionate year of some sort, then the IRS is going to come back and tag you for all the back taxes.
There’s that provision out there for separate and equal payments. A lot of people are saying, “Oh, you can do that,” but I gotta warn you, I have yet to see that done successfully, and I’ve talked to dozens of people who started doing that, and it kind of blew up on them. So getting around the 10% is going to be a little bit tougher, but let me throw out one other idea for getting around the 10%.
If Mr. Stokes can have his own valid business, even while he’s in Germany, what we could do is create a solo 401K for him, and then we can move that money from his old 401K, his old employer, over to his brand new solo 401K. Remember that brand new 401K, he can borrow out the lesser of 50% or $50,000.00. I don’t know how much you have inside the account, Mr. Stokes, but if you have over $100,000.00, you could borrow out $50,000.00 and use that to pay down on your home mortgage, if you wanted to.
That might be another idea, and that would be a non-taxable event. But you’re going to need some sort of self-employment income either between you, or you and your spouse.
Matt: Got it. So if he did the solo 401K though, now he’s back to the 20% withheld amount.
Tim: He’s back to the 20% withheld amount, if he takes a distribution. But if he just borrows the money out, that’s not a distribution-
Matt: Got it.
Tim: It’s tax-free, and he just has to pay it back in five years.
Matt: Perfect, so it really depends on how much he needs.
Tim: Yeah. How much he needs, and how old he is for the-
Matt: How old he is.
Tim: This guy … Yeah.
Matt: Got it. I have another thing to run by this, and you can comment on this, Tim. When we hear the words tax, tax liability or tax implication, or we hear the words like penalty … Those types of words that are attached to those amounts are almost scarier than the amount is. Really, it’s just an equation of pluses and minuses. I would be thinking, my strategy if I were in Mr. Stokes’ shoes, that okay I’m going to transfer over the IRA so I can avoid the 20% part, and then on the 10% that’s left, I’d really just do a math equation and treat that like an expense, as far as you want to pay off your mortgage. If you had to wait until you are able to withdraw all those funds to pay off your mortgage, how much would that cost you in waiting versus how much would it cost you in paying it off early?
Tim: I totally agree with you. That’s the smart way of looking at it.
Tim: Yeah. That’s the real smart way. It’s just do the benefits … I can’t even think … The costs and benefits of the whole thing-
Tim: Of pros and cons.
Tim: There’s another big issue, though, here. That’s the emotional pros and cons. The reason I say that is I’ve dealt with a lot of people, big bucks people, and they don’t want to have any mortgage on their home for some reason. They see that as a bad thing, and they just want to pay it off by cash. Being a tax geek, I say, “But wait, you’re going to miss out on all the mortgage deductions.” Being an asset protection geek, I say, “But wait, the bad guys-“
Matt: Are coming to get your stuff.
Tim: Well, yeah. If you pay it off, they can come and take your stuff. I’ve got a guy right now, he’s got a fancy condo in a fancy location. It’s worth a lot of money, and this guy pays down his mortgage as much as he possibly can. His mortgages may be one fourth the amount of the condo right now, and guess what? He’s gotten into a bad situation and now there’s … How do I put this? There’s certain dance steps that are being taken to protect the condo, whereas if he never would have paid down the condo, we wouldn’t have had this issue.
Matt: Mm-hmm (affirmative). The other thing, another perspective to that, that is when you pick off your mortgage, that’s all money that’s no longer working for you.
Tim: Oh, yeah.
Matt: It’s buried in your house, and you’ve essentially … I don’t know the other aspects and circumstances of your situation, Mr. Stokes, but I’d be looking at while you’re retiring your money before you get to retire yourself, when that money could be put somewhere else to create a residual income for yourself to where it could cover some of your living expenses as well as the mortgage payment, and you still get the deduction, and blah, blah, blah.
Tim: I couldn’t agree more. I mean, the last few years, they’ve been giving away money. Mortgages is what, three and a quarter, three and a half, and all that stuff? Where the hell else can you get that? If you can’t reinvest that money somewhere else, and make 3 1/2%, game over. Don’t listen to this show ever again, don’t ever call me.
I don’t want to hear from you. I mean, everybody [inaudible 00:10:10] 3 1/2, that’s easy. So, really simple arbitrage, take that money at 3 1/2, or 4 1/2, reinvest it as a measly six or seven, if that’s all you can do. If not … I don’t want to exaggerate numbers, but you know what I’m trying to say, Matt. It’s just foolhardy not to have that money working for you.
Matt: Yep. There lies another emotional obstacle, right? We’ve all been told to work and work, and save and save, and pay off our houses as soon as possible, and buy that house as soon as you are able, and then pay it off as soon as possible. That’s all this traditional advice, and we all have … It’s ingrained in our culture. We have a huge emotional attachment to it, and to hear something to the alternative can freak people out.
But the answer to his two specific questions: Is it possible to avoid the 20% and the 10% penalty for early 401K? The answer is yes, it is possible. The second question: Is there specific advice you can provide in this situation? Yeah, I’d ask you to consider not paying the house off at all. There’s better things to do with your money than to pay off your house. But then again, if that’s what’s going to allow you to sleep at night, make sure you protect your assets the best you possibly can and basically … What do they call that in the Western days?
Circle the wagons? Circle the wagons and make sure you got that so you can actually sleep well at night, without that false sense of security despite having the mortgage paid off. How’d we do?
Tim: I thought that was fantastic.
Matt: Yeah, I loved the question. It went somewhere where I wasn’t expecting, when I originally read it. But it got me thinking. Cool.
What’s new and exciting in your world, Tim?
Tim: Not much. I wish I could say there’s new and exciting stuff. Just the tax code, the wonderful thing called the tax code. It’s just pure excitement and entertainment all by itself.
Matt: It is, isn’t it? The more they change it, the more job security that create for yourself.
Tim: Oh, you got that right. It’s a wonderful thing.
Matt: It’s a wonderful thing. So, if you’ve got a question for Tim, you can go to TaxHacker.com/Questions. Post it there, we’ll read it here live on the air. Thank you, Mr. Stokes, for your questions today. If you’d like a copy of Tim’s free book, How to Take Advantage of the Five Loopholes in Trump’s New Tax Plan the Mainstream Media Isn’t Sharing with You and Could Cost You a Large Fortune, go to TaxHacker.com and you can grab that copy there.
We need to truncate that title. It takes up half the episode. After you’ve got a copy of Tim’s book, you’ll have the opportunity there to schedule some time with Tim, and either he or one of his team members will get on the phone with you for a short five to 10 minute call to assess your situation.
If there’s a good fit, they’ll take the next step to schedule a Tax Action Plan with Tim. If there’s not a good fit, don’t fret. They’ll share some alternative resources with you to where a better fit for you can be made. Either way, Tim and his team are committed that you are better off after the call than you were before. That’s just Tim. It’s what he does. Good guy.
Alrighty, Tim. Speak now or forever hold your peace. Anything else?
Tim: No, I just want to say thank you much, Matt. I look forward to the next Tax Hacker Tuesday.
Matt: Yeah, so that’s it for Tim and myself. He just said so. We will see you next week for another episode of Tax Hacker Tuesday on the Epic Real Estate Investing show. Bye.
Speaker 1: That’s it for today, as we dream of a tax system that works just for you. But until then, you have Tim Berry. See you next Tuesday for another episode of Tax Hacker Tuesday.