Expert: Allen - 4/25/2011

Question
Hi Allen,
I really hope that I've chosen an expert in the appropriate category to answer my question.  I was notified that mid-year I will have a one-time opportunity to take a lump-sum distribution of a pension I earned while working for a large company more than a decade ago.  (The company is discontinuing its pension plan if I understand correctly.)  If I opt for a lump-sum distribution, what are my investment options?  Specifically, I am wondering if the pension distribution would be eligible for placement in a Roth IRA.  Also, would there be any sort of penalty if I temporarily held the pension distribution while deciding upon an investment vehicle?  If you are not the appropriate person to answer these questions, I'd appreciate knowing which AllExperts category I should select for resubmission of the questions.  Thank you in advance.
Deborah

Answer
Your options are:

1. Rollover the distribution directly to a traditional IRA at a financial institution. If you do this you will not be taxed currently on the amount that is rolled over. You will also not be taxed currently on the investment earnings. Federal and state income tax will be due when you withdraw the money. Also if you withdraw before 59 1/2, under most circumstances, you will pay a 10% excise tax.

2. Rollover the distribution directly to a Roth IRA at a financial institution. You will have to pay state and federal income tax on the amount that is rolled over. The 10% excise tax and income tax on the earnings will not apply if you keep the money in the Roth IRA for at least 5 years and also do not withdraw before 59 1/2. The Roth makes sense if you expect to be in a higher tax bracket when you withdraw the money then you are today and if you have the money to pay the taxes from personal savings (not retirement accounts). In my opinion, the Roth does not make sense for most people.

3. Take the distribution and do not roll over. In this case you will have to pay federal and state income tax and if you are younger than 59 1/2, the 10% excise tax. The trustee will withhold a portion of the distribution for income tax. This is only an estimate. The exact tax will depend on your personal tax bracket.

4. Take the distribution and within 60 days roll it over to an IRA. The trustee will still withhold taxes. However, if you roll to a traditional IRA, you will receive a refund when you file your 2011 tax returns. This alternative does not make sense even if you are unsure how you will invest the money. It is better to set up an account at a financial institution and place the money in a money market account. You can then transfer among the mutual or other funds offered by the financial institution. In my opinion, the best financial institutions for this purpose are Vanguard, Fidelity and T Rowe Price.

Good luck with your decision.