Retirement & Taxes:

Lump Sum Pension Payouts

There are two options available to retirees who received their lump sum pension payouts from their company. There is a ten-year averaging method and then there is the five-year averaging formula. The five-year averaging formula is for people whose distributions are going to exceed couple of hundred thousand dollars. The ten-year plan is for any thing less.

Use Form 4972 if your client received a lump sum payout and wants to use one of the above methods. The tax will only be charged once for the payout, not over five or ten years. By using one of these methods your client might be able to save him or herself some money by not reporting it as their ordinary income. Your client needs to have reached the age of 59_ years before the payout.

According to the IRS, the following lump sum distributions don’t qualify for the five or the ten-year tax plan:

  • A distribution from an IRA
  • A distribution from a tax sheltered annuity
  • A distribution that is partially rolled over to another IRA or qualified plan
  • If after 1986 any distributions were made to the same participant under the five or ten year tax plan.
  • U.S. retirement bonds distributed with the lump sum payout.
  • Value of any annuity contracts
  • A lump sum credit or payout from the federal civil service retirement systems
  • A distribution of the redemption of bonds rolled over to a tax free pension plan from a qualified bond purchase plan
  • A distribution of a payout from a previously eligible rollover distribution for the same plan to the participant or the spouse and if the previous distribution was rolled over tax free to another qualified plan or IRA.
  • A corrective distribution of excess deferrals, excess contributions, excess aggregate contributions, or excess annual additions.
  • Any distribution made to the participant in the first five years of the plan unless the participant passed away.