Can I move my 401k to IRA and then withdrawal money without penalty to pay for education?

[franksli]

I am currently pursuing business school and I was wondering if there is any issues with transferring my 401k to an IRA, and then withdrawing it immediately to pay off my tuition?

I do not want to pay the 10% withdrawal, but I understand I will need to pay off the withdrawal as normal income tax.

Is there a limit to the amount that I can pull out from the IRA? Is there a specific amount of time I need to wait? Am I required to pay back my IRA the money that I withdrew? What forms or documents should I be aware of when doing my taxes for this coming year?

[dmertz · Accepted solution]

If your 401(k) permits distributions, say, because you are no longer working for that employer, you can transfer the 401(k) to an IRA to take advantage of the higher education-expense exception to the early distribution penalty available for a distribution from an IRA that is not available for a distribution from a 401(k).  There is no minimum time that the funds must remain in the IRA before making a distribution from the IRA.  You are not required to "pay back" any money withdrawn from an IRA.  If you choose to, the only way to put money back into an IRA is to roll over some or all of the money to another IRA or back to the original IRA within 60 days, and only one IRA distribution from any of your IRA accounts can be rolled over in a 12-month period.

When you make the distribution, the Form 1099-R will show an early distribution.  After entering the Form 1099-R into TurboTax, TurboTax will give you the opportunity to indicate the amount paid for qualified higher education expenses in the same year as the distribution.  TurboTax will show this amount on Form 5329 line 2 with code 08 as an amount exempt from the early-distribution penalty.  Be sure to retain records showing the amount paid for education expenses in case the IRS questions the exception.

[TaxGuyBill]

As a side note:  In the event the 401k is with your current employer and you want to try to take a "hardship" distribution from it, you can NOT roll it over into an IRA.

@dmertz  , please correct me if I'm wrong.

[dmertz]

@TaxGuyBill, you are correct.  Hardship distributions from a 401(k) are not eligible rollover distributions, nor are they exempt from early-distribution penalties.

Some 401(k)s might permit in-service distributions of part of the balance in the account before age 59½, but your own 401(k) deferrals cannot be distributed while you are under age 59½ and still employed without taking a hardship distribution.

[franksli]

From my understanding, since I am no longer employed by my company, I can roll over my 401k to an IRA and then withdrawal hardships for education without penalty.

To make matters a little more complicated, I am no longer employed by my previous company; However, my company is still making contributions to my 401k for the next couple of years (because they place a profit sharing fund for the year prior. ie they will be contributing money into my 401k this august for profit sharing in 2014, and another smaller sum next august for profit sharing for the first couple of months in 2015).

[dmertz]

By performing a direct rollover from the 401(k) to the IRA, you avoid 20% mandatory tax withholding on the distribution from the 401(k).   If the distribution was instead paid to you and then rolled to the IRA within 60 days, you would have to replace the amount withheld for taxes with money from another source to complete the rollover of the entire amount.  Even though you still may need to have some money withheld for taxes or pay estimated taxes to avoid a tax underpayment penalty, you don't want that withholding to come from the 401(k) since the distribution from the 401(k) doesn't qualify for the higher education-expense exception.  For your distribution from the IRA, make sure that the gross amount distributed (which includes the amount of any taxes that you choose to have withheld) do not exceed the education expenses for the year.