401k withdrawal and tax withholding

[cspyon]

I'm 62 years old, semi-retired,  and planning to withdraw $2,500 from my 401k every month.  When I checked it, I have to pay about $693 in estimated taxes (federal 20%, state 7.75%), so my net would be around $1,806. 

So, this is my question: is it mandatory for my investment company to withhold this taxable amount when I withdraw it, or can I withhold the taxes until I file the tax returns next year? 

[Hal_Al]

You can wait and pay the taxes when you file the tax returns next year. You can do this since the amount you will owe is less than $1000 (federal). You should check what your state's limit is ($500 is typical). 

[dmertz]

The law requires that the 401(k) plan withhold a minimum of 20% for federal income taxes because your distributions are eligible for rollover.  Whether or not state income tax withholding is mandatory depends on the state.  The 7.75% figure suggests mandatory Maryland tax withholding.

Underpayment of taxes is figured on a quarterly basis, so waiting until filing to pay your entire tax liability will generally result in underpayment penalties.

[cspyon]

Hmm...

So this is what I want to know. If I  withdraw 401k, it counts as my income, right?  

For example, assuming withholding the due taxes,  if I withdraw a total of $15000 ($2500 x 6) until Dec.,  does it simply add to my other income and get taxed when I file the tax returns next year? Or do I pay for the taxes on this 401k withdrawal and, seperately, on my total incomes including the 401k withdrawal? 

[NCperson]

you ONLY calculate tax on a tax return.

What is withheld from the 401(k) withdrawals are "withholdings", which is simply the down payment against the actual tax calculated on a  tax return. 

to answer your specific question, the $15,000 of withdrawals are added to you other income on the tax return, the tax is calculated and then the withholdings are deducted from the tax.  The result is either you get a refund or owe more. 

[dmertz]

Everything is reconciled on your tax return.  Tax withholding, while determined by the amount of the distribution in this case, does not apply on your tax return to any particular item of income on your tax return.  Tax withholding is simply a down-payment toward your overall tax liability and is credited on your tax return against that overall tax liability.

[cspyon]

I still don't get it clearly.

Let me put it this way:

1. 401k withdrawal amount: $15,000 ($2500x6, June-Dec. 2024)

2. Federal/state taxes due: $638 per each $2500 withdrawal, so the total is $3,828

If I choose to pay the taxes now, I would receive $1,862 each month after the tax.

If I choose to withhold the taxes until next year, I would receive $2,500 each month before tax.

Okay, let's say my taxable income for next year is $30,000, other than this 401k.  So, my total taxable income is $45,000($30,000 plus $15,000), right? 

Now, this is my question. During the tax return next year, should I pay the taxes on my taxable income of $45,000? Or should I pay $3,828 (401k withheld tax), in addition to the taxes on $45,000?  I'm confused here. 

[VolvoGirl · Accepted solution]

You will  pay 1 tax on all your income 45,000.  The tax is figured on your tax return you file.  The $638 taxes taken out of the 401K withdrawals are not the actual tax.  Just withholding towards the tax.  You will get credit for the withholding on your tax return.  

You aren't actually paying the tax when you take the 401k withdrawals.  You have taxes withheld like from your paycheck. You still have to enter the whole gross amount 15,000  (before taxes were withheld) with your other income to figure out the total tax (and it may put you into a higher tax bracket) and then the withholding is subtracted from the total tax to figure your refund or tax due. The Gross amount shows up on 1040 line 5a and the taxable amount on 5b. The withholding will show up on 1040 line 25b.

[cspyon]

Got it.

Someone here mentioned 'underpayment penality' in his reply:

Underpayment of taxes is figured on a quarterly basis, so waiting until filing to pay your entire tax liability will generally result in underpayment penalties.

If I withhold the 401k taxes, does this underpayment penalty apply to me? 

[VolvoGirl]

It might if you don't have enough withholding paid in each quarter.  

If you do not pay in enough tax from withholding and estimates, you may have to pay a penalty for underpayment of estimated tax. The penalty is an Estimated amount. Even if you are getting a refund you can still owe a penalty for not paying in evenly during the year. Generally, most taxpayers will avoid this penalty if they owe less than $1,000 in tax after subtracting their withholdings and credits, or if they paid at least 90% of the tax for the current year, or 100% of the tax shown on the return for the prior year, whichever is smaller. It is included in your tax due or reduces your refund.

[cspyon]

So, given my situation and the tax bracket,  which option would you recommend, pay now or later?

[fanfare]

Removed -- sorry for any confusion.

@cspyon 

[VolvoGirl]

Have the withholding taken out of your 401k payments now.  Then you won't owe too much on your tax return next year or you may get a refund.    

[cspyon]

Got it. Thanks. 

[cspyon]

See this from my financial company: 

AMOUNT YOU WANT TO WITHDRAW $2,500.00

FEES $0.00

ESTIMATED TAXES  $693.75

TOTAL AMOUNT YOU'LL RECEIVE $1,806.25