Learn About Retirement and Refund Options

Understanding Retirement Account Types and How They Work

Retirement accounts come in different forms, and each one has its own rules about how money grows and when you can take it out. The most common types include 401(k) plans, Individual Retirement Accounts (IRAs), and pension plans. Knowing the differences between these options helps you understand what happens to your money and what choices you may have later on.

A 401(k) is an employer-sponsored retirement plan. When you work for a company that offers one, you can direct a portion of your paycheck into the account before taxes are taken out. Many employers also add matching contributions—meaning they put in money based on what you contribute. For example, an employer might match 50% of what you contribute, up to 6% of your salary. If you earn $50,000 per year and contribute $3,000 (6%), your employer might add $1,500. This is essentially free money toward your retirement.

An IRA is an individual retirement account you open on your own, separate from an employer. There are two main types: Traditional IRAs and Roth IRAs. With a Traditional IRA, you may receive a tax deduction for contributions in the year you make them, and the money grows tax-deferred. With a Roth IRA, you contribute after-tax money, but the withdrawals in retirement are typically tax-free. In 2024, you can contribute up to $7,000 per year to an IRA if you are under age 50, or $8,000 if you are 50 or older.

Pension plans are less common than they used to be, but some employers and government agencies still offer them. A pension provides a guaranteed monthly payment in retirement based on your years of service and salary history. Unlike 401(k)s, where investment risk falls on you, pensions are managed by the employer, and the employer bears the investment risk.

Practical takeaway: Review any retirement accounts you currently have. Write down the account type, the balance, and whether your employer makes matching contributions. This creates a starting point for understanding your retirement picture.

Required Minimum Distributions and Age-Based Withdrawal Rules

Once you reach a certain age, the government requires you to start taking money out of most retirement accounts. These withdrawals are called Required Minimum Distributions, or RMDs. Understanding when RMDs begin and how much you must withdraw prevents penalties and helps you plan your finances.

For Traditional IRAs and 401(k)s, RMDs generally must begin on April 1 of the year after you turn 73 (as of 2023, following changes made by the SECURE 2.0 Act). The amount you must withdraw each year is based on your age and the total balance in your retirement accounts as of December 31 of the previous year. The IRS provides a life expectancy table to calculate the exact amount. For example, if you are 73 and have $500,000 in a Traditional IRA, the IRS table shows a distribution period of 26.5. Dividing $500,000 by 26.5 gives approximately $18,868—the minimum you must withdraw that year.

Roth IRAs have different rules. You are not required to take RMDs during your lifetime, which makes them attractive for people who do not need the money immediately. However, after your death, beneficiaries must follow RMD rules based on their relationship to you and when you passed away.

If you fail to take an RMD or take less than required, the IRS imposes a penalty equal to 25% of the shortfall amount. For example, if your RMD is $10,000 and you only withdraw $6,000, the penalty would be 25% of $4,000, or $1,000. This penalty has decreased from the original 50% in recent years, but it remains significant.

You can take withdrawals before RMDs are required, and they count toward your RMD when withdrawals do become mandatory. Some people take withdrawals at age 62, 65, or 66, which reduces the balance and the RMD amount later.

Practical takeaway: If you have a Traditional IRA or 401(k) and are within five years of age 73, request an RMD calculation from your financial institution or use the IRS RMD Worksheet. Knowing the exact amount ahead of time prevents errors and unexpected penalties.

Early Withdrawal Penalties and Exceptions

Taking money out of a retirement account before the standard retirement age usually results in penalties and taxes. However, several exceptions exist where you can withdraw funds without the typical 10% early withdrawal penalty. Learning these exceptions may provide options during financial hardship.

The standard early withdrawal penalty applies to withdrawals from Traditional IRAs and 401(k)s before age 59½. If you withdraw $20,000 before reaching 59½ from a Traditional IRA, you owe income tax on the full amount plus a 10% penalty ($2,000). Your income tax rate depends on your overall income. If you are in the 22% tax bracket, you would owe approximately $4,400 in taxes and penalties combined, leaving only $15,600 of the original $20,000.

However, the IRS permits penalty-free withdrawals in specific situations. These include substantial equal periodic payments (SEPP), also called a 72(t) distribution. This rule allows you to withdraw money before 59½ without penalty if you commit to taking equal amounts annually based on your life expectancy. If you are 50 and have $300,000 in a Traditional IRA, you might withdraw approximately $8,500 per year for the rest of your life using the SEPP method. Once you begin, you must continue for at least five years or until age 59½, whichever is later.

Other penalty-free exceptions include distributions for a first-time home purchase (up to $10,000 lifetime), medical expenses exceeding 7.5% of your adjusted gross income, health insurance premiums if you are unemployed, and disability or medical hardship. Military service members may also have special withdrawal options.

Roth IRAs have more favorable withdrawal rules. You can withdraw contributions at any time without penalty because you already paid taxes on that money. However, earnings within the account typically cannot be withdrawn before age 59½ without penalty, except in narrow cases such as first-time home purchase or disability.

Practical takeaway: If you are considering an early withdrawal, document which exception might apply (such as medical expenses or first-time home purchase). Contact your retirement account custodian to discuss the tax and penalty implications specific to your situation before withdrawing.

Refund Options When Leaving a Job or Changing Employment

When you leave a job where you have a 401(k) or similar employer-sponsored plan, you face several decisions about what to do with the money. Understanding your options helps you avoid taxes and penalties while preserving your retirement savings.

Your primary options include leaving the money in your former employer's plan, rolling it over to an IRA, rolling it over to your new employer's plan, or cashing it out. Each choice has different tax consequences and impacts your retirement readiness.

A rollover means moving funds from one retirement account to another without immediate tax consequences, as long as the transaction follows IRS rules. In a direct rollover, your former employer sends the money directly to the new account custodian. This is the simplest method and avoids mistakes. An indirect rollover occurs when your employer sends you the check, and you deposit it into another retirement account within 60 days. This method carries risk: if you miss the 60-day deadline, the withdrawal becomes taxable, and you may owe taxes plus a 10% penalty if you are under 59½. The IRS withholds 20% for taxes on indirect rollovers, so you receive only 80% of the funds, creating a shortfall you must cover from other sources to avoid the penalty.

Leaving money in your former employer's plan is often possible if your balance exceeds $5,000. This may be appropriate if the plan offers low fees or investment options you prefer. However, you lose the ability to borrow against the account and typically cannot add more money.

Rolling over to an IRA gives you control and typically offers more investment options than employer plans. You can choose where to open the IRA and select from thousands of investment choices.