401k Hardship Distribution for Medical Expenses

Ask the Money Coach:

My mother got into a car accident and can not make decisions on her own. I am currently her power of attorney. How can I cash out her 401K to pay for her expenses?

She has been out for over a week and doctors expect her to be disabled for quite some time. I need help to pay for everything so how can I get access to her 401k?

Response from Boston Money Coach:

For the immediate issue, you can contact your mom’s employer and speak with the HR department or the company’s 401k administrator about their specific requirements.  Employer plans may offer the option allowing employees to withdraw from the balance contributed by the employee but not all employers offer the option.  If the employer’s plan does allow for “hardship distributions,” you’ll be provided with the details on limits and procedures by them. You’ll need to provide documentation to them of your power of attorney.

Amounts Eligible for Distribution

Depending on what the plan allows, you may be eligible to tap from the balances accumulated from the employee elective deferrals, the employer profit-sharing contribution and any regular employer matching contributions.  Generally, the amount earned on elective deferrals is not available for a hardship distribution.

Criteria for a Hardship Distribution

To be eligible for a hardship distribution, from a participant’s account you need to show that the distribution is:

  • because of an immediate and heavy financial need, and
  • limited to the amount necessary to satisfy that financial need.

There are several “safe harbor” provisions available.  Medical expenses for an employee, employee’s spouse or children or beneficiary are at the top of the list.  Other eligible situations include costs incurred for the purchase or repair of the employee’s primary residence, education or funerals.

Tax Treatment of Distributions

Under IRS rules, you may withdraw money from the employer-sponsored plan but you will still have to pay income tax on the amounts and if your mom is under age 59 1/2 there will be a 10% penalty.

A Teachable Moment in Tax Planning

Tax and financial planning cannot prevent such crises but proper planning can help deal with them with less stress.  Life is filled with risks. At any time we can be literally and figuratively hit by something unexpected.  The goal of financial planning is to find ways to mitigate these risks.

Companies are supposed to have “disaster plans” in place.  We owe it to ourselves and our loved ones to do the same.

This is why I suggest to families that they review their auto and property insurance regularly to make sure that they have proper coverage in place for things like medical expenses.  I also suggest long-term and short-term disability insurance to help ensure that there will still be income coming in even if you are still in the hospital. I’m also a fan of supplemental benefits coverage (think AFLAC) to provide cash that may be a resource to cover bills above and beyond medical care.

But the best and most effective part of any safety net is having an emergency cash fund – liquid, safe and readily accessible. Another important element is proper legal documents in place.  As in this case, a family member of trusted friend having a power of attorney will help by allowing someone the authority to represent you and conduct your financial affairs in your absence.

But none of this works if you don’t plan ahead for the worst even when we all hope for the best.


8 Ways to Minimize Your Taxes

It’s tax time again. While taxes are the price for a civilized society, there’s nothing in the law that says you can’t lower your own tax bill. So at this time of year, I do get questions about taxes. Most folks are looking for ways to minimize taxes. Here are 8 ways to minimize taxes. You may find one or two that work for you.

You can minimize tax liability in more ways than can be counted here. You are limited only by your imagination, the creativity of your professional team and your willingness to go right up to whatever lines the IRS has.

Tax Minimization versus Tax Evasion

As noted once in a US Supreme Court opinion, tax avoidance is not illegal. Tax evasion is.  Being on the right side of the line is key. There are lots of legal ways to minimize your taxes.

For some who have deep pockets and can afford to hire teams of high-priced tax attorneys and accountants, the number of creative ways found to avoid taxes can almost be limitless.  But like investing, these kinds of options also come with high risks if the IRS deems the strategies to be illegal or abusive.

For most people without an entourage of professionals, there are still some conventional ways to minimize your tax liability.

Options for Self-Employed or Rental Property Owners

The best options usually involve being self-employed or owning rental real estate. For these folks there is the opportunity to use depreciation, a calculated non-cash expense, to lower one’s taxable profits from a business or rental property. Likewise, you can find ways to legally shift income.

One way is to hire family members like a spouse or minor children which shifts net profit from your tax bracket to someone who may be in a no-tax bracket. This works especially well if you help the minor child use his income to fund a Roth IRA which gives him a head start on retirement savings and is a neat way to save for college, too.

Another option is to supplement medical expenses through a Medical Expense Reimbursement Plan (MERP) sponsored by your enterprise. Let’s face it. You were going to incur and pay those expenses anyway but through these methods you can now get a legal tax subsidy.

Ways to Minimize Taxes When Receiving a W2

For those who are W2 earners, the best options relate to employer-sponsored benefits. Take advantage of any benefit that shifts income to a tax-deferred vehicle.  These include employer-sponsored retirement plans, flexible spending accounts for health or dependent care.

If you don’t work outside the home but you have a spouse who does, then be sure to fund your own IRA to the max.  This will help your own retirement but also reduce your current year taxable income.

Investing Strategies that Lower Taxes

If you have deeper financial pockets, you can consider investing in municipal bonds which produce tax-exempt income or in partnerships like oil and gas exploration which produce depreciation and losses that can be used to offset your other income.

Lower Taxes in Retirement: Think Roth IRA

While lowering taxes in the current year are what most people are now asking about, it’s also advisable to plan ahead for taxes in retirement. As you put aside money in your IRAs and company 401(k)s, you’re lowering your current tax bill. But you’ll find that Uncle Sam will be waiting to take his toll when you start taking distributions in retirement.

One way to lower your future tax bill will be diversifying where your retirement money is held. By funding or converting other IRA funds to a Roth IRA, you’ll have the option to withdraw funds tax-free in retirement or allow them to continue to grow because you won’t have to take a minimum distribution from these accounts.

Because of income threshold limits, you may not directly qualify for opening or funding a Roth IRA. But with a little bit of help, you can navigate the rules to fund a ‘backdoor Roth IRA’ which will save you money on taxes in retirement.

Next Steps

To really figure out your best options, you should have a plan. So, you should reach out to a qualified financial professional who knows how to integrate tax planning for your personal situation.


Avoid Common Tax Filing Mistakes

Common 1040 Mistakes to Avoid

You may be in a rush to get your tax returns filed but take some extra time to avoid common tax filing mistakes that I see all the time.  These slip-ups often creep into federal and state tax returns.

No one wants to delay their federal tax refund. But mistakes happen.  So it never hurts to check twice to make sure that you’ve filled out your 1040 form correctly.

These are some of the most common tax filing mistakes to avoid, the little slip-ups that aggravate both the IRS and the taxpayer and can cause your tax return to be rejected or delayed.

Not signing your return. If you file online like most individuals, many tax software programs require you to type your name on the “Your Signature” line and in the “Sign Here” section, along with your spouse’s name if you file jointly. In many cases you’ll need a PIN code to file.  If you still file a hard-copy return, you’ve got to sign your name on the “Your Signature” line, and the same goes for your spouse on the “Spouse’s signature” line. No valid signature equals an invalid return.1

Not getting your name right. Believe or not, some people mistype their names as they e-file. More commonly, they enter an old name – a maiden name, for example – that doesn’t match the name linked to this taxpayer identification number. Another problem that I’ve encountered is with hyphenated last names.  So if you’ve changed your name, the Social Security Administration (and other federal agencies, as applicable) need to know that.1

Missing the filing deadline(s) applicable to you or your business. Is your company an S corp? That means you will probably need to file a Form 1120S by March 15. Is it a sole proprietorship? That means you have until April 15 to file a Form 1040C. If you are new to making estimated tax payments, you have hopefully pored over Form 1040-ES with a tax professional to figure out how much tax is due by each quarterly payment period.2

Turning in Form 4868 (the “extension”) gives you until October 15 to file, although any federal taxes owed must still be paid by April 15. If you are a servicemember on duty outside the U.S. and Puerto Rico, you have until June 15 to file your return and pay taxes, and you can also use Form 4868 to file as late as October 15.3

If you file late (that is, you submit your return after April 15 without using Form 4868 to request an extension), you face a penalty – a 5% penalty per month following the return’s due date, capping out at a 25% maximum penalty after five months. The penalty for unpaid taxes is .5% per month after the April 15 deadline, and 6% interest a year. If you have taxes a year overdue, you will be assessed both the monthly and yearly penalties.2

Making numerical errors. Even with some of the great tax prep software now available, math errors still happen. In fact, they happen largely because people don’t use the software: the taxpayers who insist on filing paper returns are 20 times more likely to commit math mistakes than those who e-file, the IRS reports.1

And let’s not forget about those all-too-common ‘finger errors’ when typing into a calculator or on a keyboard.  It doesn’t hurt to check twice.

If an electronically filed return contains a math mistake, it gets sent back to the taxpayer or tax professional for correction and resubmission. If a paper return has a math mistake, the IRS has to refigure it on the taxpayer’s behalf. That takes time and delays your expected refund.1

Additionally, some taxpayers get Social Security numbers wrong – not necessarily their own, but those of their spouses. Also, a smooth direct deposit of a federal tax refund won’t happen if a taxpayer types in an inaccurate bank account number.1

How many times has that happened to you?  It’s happened to me.

Selecting the wrong filing status. This happens a lot with divorced moms and dads. To determine if they should check the “head of household” box or the “single” box, they should take the online interview at irs.gov/uac/What-is-My-Filing-Status%3F.4

I once had a couple who were each divorced and recently remarried (to each other) ask to file as “Married Filing Separately” thinking that would be less complicated.  It took a little bit of time to explain that that wasn’t a good deal for them.

Claiming a credit or deduction you shouldn’t. Again, tax prep software tends to ward off this mistake. Credits often inappropriately claimed (or ignored): the Child and Dependent Care Credit, the Earned Income Tax Credit and even the standard deduction.1

Many business owners overlook deductions or claim them in error. Sometimes this can be traced back to slipshod record-keeping; other times, it stems from faulty assumptions. According to a survey from small business accounting software maker Xero, the most common merited deductions that aren’t claimed by SBOs are those for depreciation (30%), out-of-pocket capital expenses (29%) and car and truck expenses (16%).2

Claiming employees as independent contractors. Some small business owners try to save money by doing this, but the IRS may disagree with such claims. If so, the business can end up on the hook for employment taxes related to that employee.2

It’s worse in the state of Massachusetts where the definition of who is an independent contractor is even more restrictive than the feds; thus, exposing the business owner to a host of taxes and penalties later one if ever discovered.

So what steps can you take to try and reduce the risk of errors on your 1040 form? You can file electronically; you can use some of the terrific tax prep software available; you can turn to a skilled tax professional to help you prepare and file your return. No one is perfect, but those are all good moves to make this tax season.

And don’t forget to be like Santa … check twice.  That’s one way to be nice.


1 – money.cnn.com/gallery/pf/taxes/2014/04/08/tax-mistakes/index.html [4/8/15] 2 – nerdwallet.com/blog/small-business/5-frequent-small-business-tax-mistakes-avoid/ [10/15/14] 3 – irs.gov/taxtopics/tc304.html [1/16/15] 4 – irs.gov/uac/What-is-My-Filing-Status%3F [1/12/15]


10 Year-End Tax Strategies That Save You Money

As the end of another business and tax year is upon us, consider these 10 year-end tax strategies that save you money.

  1. Pay Taxes Early:  You can accelerate your income tax deductions by paying January estimated income taxes in December.
  2. Accelerate Income Tax Deductions:  Likewise, you can make your January mortgage payment in December.  You can also do the same for property or excise taxes and even charitable deductions. This will help you lower your taxable income and possibly offset increases in earned income, bonuses or real estate income.
  3. Postpone Receipt of Income:  For cash-basis taxpayers (that’s most of us), delay your year-end receivables. Defer payment of dividends from your C corporation until 2017. talk with your employer about delaying receipt of bonus income. If possible, contribute extra to your retirement plans. Anything that helps you lower your taxable income may also be useful for college financial aid strategies.
  4. Don’t Buy Capital Assets This Year:  With a new president entering the White House, you may want to take a wait-and-see approach to tax changes.  GOP proposals include allowing businesses to expense the entire purchase of capital assets.  This will lower taxable income more than the current Section 179 deduction limits.
  5. Make Gifts to Charities and Family Foundations with Appreciated Assets:  Consider gifting low-basis stock instead of selling it to raise cash for gifts which could lead to capital gains taxes.
  6. Harvest Losses to Offset Capital Gains: Be aware of the capital gains that may be distributed to you from your mutual funds or other investments near the end of the year.  Take advantage of those securities that are experiencing a loss and use the tax savings to offset your gains.
  7. Establish and Fund Qualified Plans for Your Family: Consider making a gift of up to $5,500 to either a traditional or Roth Individual Retirement Account (IRA) for your children or grandchildren who aren’t funding their own IRAs but have enough earned income to report.
  8. Identify Assets and Amounts to Make Proper Grantor Retained Annuity Trust Distributions Before April 17, 2017:  If the annuity payment date is tied to the end of the trust’s taxable year, the payment must be made no later than the date the trust’s income tax return us due.
  9. Make Annual Exclusion Gifts to Chosen Loved Ones of $28,000 (per Married Couple):
    • Make any gifts into trusts for children and/or grandchildren
    • Contribute to Internal Revenue Code Section 529 plans, which grow free of income tax
    • Make unlimited gifts directly to educational institutions and medical facilities or your own family foundation
  10. Make Distributions of Income from Trust Accounts and Estate Accounts to Lower the Income Tax Liability: Estates and trusts are taxed at the highest income tax rates (and a much lower threshold at which the 3.8 percent Medicare surtax applies).  So it may make sense to distribute income to the beneficiaries to be taxed at the beneficiary’s lower income tax rates.