Profit sharing plans offer employees the opportunity to benefit from the company’s annual profits. Profit sharing plan administrators typically do not require a plan participant to withdraw money from the plan before a certain period of time, usually until the employee turns 59½ years. However, an employee may withdraw money from the plan if he is encumbered by financial hardship. Under these circumstances you may not incur an early withdrawal penalty but you will still have to pay income taxes. Cashing out profit sharing penalties entails avoiding the tax penalty by meeting the financial hardship requirements, rolling over the benefits and filing the requisite documents.
Meet one or more of the eligibility requirements for a hardship withdrawal which include: disability, debt for medical expenses that exceed 7.5 percent of your adjusted gross income, alimony and child support obligations or separation from employment through termination, retirement or quitting.
Speak to your plan administrator about your intention for an early withdrawal. Present evidence of your hardship to your profit sharing plan administrator who may also be your (former) employer. Bring along with you documents such as disability checks from a disability insurance policy or Social Security benefits, qualified domestic relations order (QDROs) in case of divorce or medical bills.
Roll over your profit sharing distribution from the profit sharing plan to an individual retirement account (IRA) in event the of separation from employment. Choose a traditional IRA (tax-deferred retirement plan) if you think your income tax rates will reduce in retirement. Opt for a Roth IRA (tax-exempt retirement plan) if your adjusted gross income is less than $116,000 and you will be in a higher tax bracket in retirement.
Speak to a bank, brokerage or mutual fund company to open the type of account you have chosen. Open an IRA account with a bank if you have not fully decided how you wish to invest. Get into a mutual fund if you want to invest in bonds, shares and annuities.
Request your plan administrator to pay your profit sharing distribution into your newly opened IRA. Provide the plan administrator with your name and the account number of the new IRA to enable the rollover of profit sharing distributions. Receive from the plan administrator Form 1099R which indicates you took a distribution from the profit sharing plan due to financial hardship and Form 5498 indicating you rolled over the contributions.
File your tax returns online by downloading Form 1040 from the Internal Revenue Service website. Attach Forms 1099R and 5498 to your IRA tax return form. Report the rollover amount on your tax return as not taxable by typing in the distribution amount on Section 15a Form 1040 and then indicating "0" on Section 15b.
Speak with both the plan administrator and a tax professional to ensure you understand your total tax obligations when making early withdrawals from a profit sharing plan.
- Speak with both the plan administrator and a tax professional to ensure you understand your total tax obligations when making early withdrawals from a profit sharing plan.
Diana Wicks is a Canadian residing in Vancouver. She began writing in 2004 while still a student at Lincoln School of Journalism, in the city of London. She has worked as Chief Editor of Business Chronicle, an online magazine based in London. Wicks holds a Bachelor of Arts (Honors) in journalism and a Master of Business Administration from the London School of Economics.