Previous employer closed my 401k account with less than $1000. They sent me a check with the taxes taken out. What is the penalty if I don't put it in an IRA account?

[dizz42275]

Check is made out to me.  I am under age 59 1/2.

[fanfare]

the penalty is 10%.

your best bet is to put the money in a self-directed Roth IRA account.

[DoninGA]

The early distribution penalty is 10% of the gross amount distributed.  

The plan administrator is required to withhold 20% for federal income taxes on the distribution.

In January 2024 you will receive a Form 1099-R for the distribution.  The form is entered on your federal tax return.  Any federal taxes withheld are reported on your return as a tax payment.  The taxable amount distributed is entered on your tax return as ordinary income.

The early withdrawal penalty is assessed on the federal tax return as a tax liability.

[Opus 17]

You have 60 days to rollover the funds.  If you keep the money, you pay regular income tax plus a 10% penalty.  If you roll over the funds to a Roth IRA, you pay income tax but no penalty.  If you rollover the funds to a traditional IRA, it’s tax and penalty free.  

[fanfare]

it's not tax and penalty free if the employer withholds tax

the employer should not withhold any tax if they are closing out your 401k.

[Opus 17]

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@fanfare wrote:

it's not tax and penalty free if the employer withholds tax

the employer should not withhold any tax if they are closing out your 401k.

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I'm not clear if the regulations always require withholding, but;

If, for example, the distribution is $1000 and the employer withholds 20% backup withholding, so the employee gets a check for $800, the employee must nevertheless deposit $1000 in the new IRA to consider the rollover to be completed.  Then, there would be no penalty. Tax would be owed if the rollover was into a Roth but not if it was into a traditional IRA.  If the withholding is more than the tax, the difference gets added to the persons tax refund.

However, if the employee only deposited $800 in the new IRA, then it would count as an $800 rollover and a $200 taxable withdrawal.  The employee would pay tax and a penalty on the withdrawal amount, and would only pay tax on the rollover amount if it was to a Roth IRA. 

[fanfare]

OK yes the employee has to make up the difference of any tax withheld out of their other funds within sixty days.