Withdrawal Exceptions For Only Government Plans
Some early withdrawal tax exceptions apply only to government plans issued to specific federal workers. Learn about these exemptions below.
Certain Public Safety Employees Not Subject to 10% Penalty Tax
(§ 72(t)(10)) - The 10% early withdrawal tax does not apply to distributions from a governmental defined benefit pension plan to a qualified public safety employee who separates from service after:
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Age 50, or
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At least 25 years of service with the employer sponsoring the plan (added by SECURE 2.0 Act Section 329, whichever comes first.
A qualified public safety employee for this purpose is:
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Any employee of a State or political subdivision of a State who provides police protection, firefighting services, or emergency medical services for any area within the jurisdiction of such State or political subdivision
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SECURE 2.0 Act Section 330 effective for distribution after December 27, 2022, extends the public safety officer exception to the 10% early distribution tax to corrections officers or forensic security employees providing for the care, custody, and control of forensic patients who are employees of state and local governments. or
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Any Federal law enforcement officer, Federal customs and border protection officer, Federal firefighter, or any air traffic controller.
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Applies to Original Distribution Only - This exception applies only to the original distribution from the government plan., If the employee rolls the funds into an IRA or defined contribution plan, any subsequent distribution is subject to the 10% penalty., (Notice 2007-7 Q9)
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1099-R Coding - A payer is permitted to use distribution code 2 (early distribution, exception applies) in box 7 of Form 1099-R. However, a payer is also permitted to use distribution code 1 (early distribution, no known exception) if the payer does not know whether the exception under § 72(t)(10) applies. (Notice 2007-7 Q10). If the 1099R shows code 1, but the taxpayer qualifies for the exception and is not subject to the 10% penalty, use Code 01 on Form 5329.
Exception for Federal Workers’ Phased Retirement
H.R. 4348, the Moving Ahead for Progress in the 21st Century Act (aka MAP-21) was signed by the President on July 6, 2012. The bill includes a provision of phased retirement for federal employees, effective after the Office of Personnel Management issues implementing regulations, which they did on November 6, 2014, and the various agencies decide whether to and how to implement the program. Media reports indicate that very few government employees have applied to participate in this program so far, with most retirement age employees who leave government service either retiring fully or going to work in the private sector. Some departments have indicated they won’t be adopting the phased retirement program any time soon.
This provision allows certain federal employees to phase into retirement at the end of their careers. Phased retirees would work part-time while receiving proportionately reduced pensions. At full retirement, the phased retiree will receive a composite retirement annuity that also includes the portion of the employee’s retirement annuity attributable to the reduced work schedule.
Payments under a phased retirement annuity and a composite retirement annuity received by an employee participating in this new program are exempt from the early distribution penalty. (Code Sec. 72(t)(2)(A)(viii), as amended by Act Sec. 100121(c).
California Differences
The California penalty rate for early retirement plan or IRA distributions is 2.5%. The amount of the early distributions included in income for California purposes may differ from the amount reported on the federal return if the amount of contributions deducted for California was different than the federal amount (for example, because California and federal maximum contribution amounts were not the same in some years). The California penalty applies to the amount of the early distribution taxable on the California return.
California generally conforms to the exceptions allowable under Federal law, including the Federal early withdrawal penalty waiver for distributions from qualified retirement accounts under the federal CARES Act. If the FTB levies the plan to pay delinquent state taxes, the distribution will be subject to federal penalty but exempt from penalty by CA. Legislation will be needed before California conforms to the exception for federal workers’ phased retirement payments.
California does not penalize a taxpayer who fails to make their required minimum distribution.