457 distribution rules

[Guest petet]

I was hoping someone could clear up the confusion regarding the change in distribution rules effective 01/01/02. My understanding is that a 457 participant is permitted to receive distributions after termination of service at any age and not be subject to the 10% early withdrawal penalty (under current rules). What will happen in 2002? Some are saying that the participant would be penalized 10% if distributions are received prior to 59 1/2, while others are saying that if the participant leaves the funds in the 457 (and not rollover to an IRA) the 10% would not apply. Any insight would be helpful.

Thank-you.

[Carol V. Calhoun]

If the funds are actually distributed, they will be subject to both tax and any early withdrawal penalties. (The penalties would apply only to the extent that the distribution consisted of amounts attributable to amounts from qualified plans, 403(B) plans, or IRAs.) However, the constructive receipt rule is abolished. This means that amounts either left in the 457(B) plan, or rolled to an IRA or other plan, will not be subject to either the tax or the penalty.

The new rules, however, apply only to distributions in 2002 or later. Thus, for example, if you are subject to tax on a distribution paid in December, 2001 (either because it is actually received, or because the participant had the unconditional right to receive it), you will not be able to avoid the tax by rolling the amount over in January, 2002.

[Guest MILC]

Can a participant in a 457(b) plan receive a distribution upon termination of the plan and roll it over to an IRA (under the new rules) absent a severance of employment or other distribution event?

[Carol V. Calhoun]

It would appear not, since section 457(B) does not list a plan termination as a distributable event. Of course, this leaves the question of what to do with the assets if a plan does terminate.

[Guest timb]

If both the plan termination and separation from service by the employees occur this year (in November of 2001), am I correct that the EGTRRA provisions would be available and the participants could roll over to another qualified plan or IRA? I assume the plan would have to be amended for EGTRRA and the participants would have to wait until Jan. 1 2002 to take distributions (if they wish to take advantage of the EGTRRA options).

Related question: are any IRS filings required in connection with the termination of a 457(B) plan?