The Rule of 55 and 72(t) payments

Money in a 401(k) or traditional IRA is meant for retirement. Take it out before age 59.5 and you usually owe a 10% additional tax on top of regular income tax.

The tax code has exceptions. Two of them matter most for people who retire early: the Rule of 55 for workplace plans, and a series of equal payments known as 72(t). This guide explains both.

The Rule of 55

If you leave your job in or after the calendar year you turn 55, withdrawals from that employer's plan aren't penalized. You still pay income tax on them.

For qualified public safety employees in governmental plans, the age is 50. Long service can qualify them even earlier.

What counts

• The year, not the birthday. You can leave in January of the year you turn 55 and still qualify.
• Any reason for leaving. Retiring, quitting and being laid off all count.
• Only that employer's plan. Plans from earlier jobs don't qualify. Some people roll old plans into their current employer's plan before leaving, so the rule covers all of it.
• Not IRAs. If you roll the 401(k) into an IRA, the exception is gone for that money.

Check your plan's rules

The law allows these withdrawals, but your plan decides how you can take them. Some plans allow only a full payout, or a few withdrawals a year. Ask before you leave. Plans also withhold federal tax from these payments, which may be more than you end up owing.

Governmental 457(b) plans are different

Governmental 457(b) plans have no early-withdrawal penalty at all once you leave the employer, at any age. If you have one, it's often the first account to use. See 401(k) and 457(b) limits.

A worked example: the Rule of 55

Luis turns 56 in 2026 and retires in June. His 401(k) holds $500,000. He plans to take $40,000 a year until his pension and Social Security start.

Because he left in the year he turned 56, his 401(k) withdrawals carry no penalty. Over the three and a half years until he reaches 59.5, that saves him 10% of $140,000, or $14,000.

If Luis had rolled the 401(k) into an IRA first, every one of those withdrawals would have been penalized. Leaving the money in the plan until 59½ keeps the option open.

72(t): substantially equal periodic payments

The second exception works at any age, and it applies to IRAs. You commit to a series of yearly payments based on your life expectancy. It's often called SEPP, for substantially equal periodic payments.

Three ways to set the amount

The IRS allows three methods:

1. The required minimum distribution method. Divide the balance by a life expectancy factor from the IRS tables. The payment changes each year with the balance.
2. The amortization method. A fixed payment, like a mortgage, using the life expectancy and an interest rate no higher than an IRS-set limit.
3. The annuitization method. A fixed payment using an annuity factor and the same interest limit.

The second and third methods usually give a larger payment than the first.

How long you're locked in

Payments must continue for five years, or until you reach 59.5, whichever is later. Start at 50 and you're committed for nine and a half years. Start at 57 and it's five.

During that time you can't add money to the account or take extra withdrawals. If you break the schedule, the 10% penalty applies to every payment you've taken, plus interest. You're allowed one switch, from a fixed method to the minimum distribution method.

A worked example: 72(t)

Grace is 52 and retired. Her traditional IRA holds $600,000. Using the minimum distribution method with the single life table, her factor at 52 is 34.3.

Her first-year payment is $600,000 ÷ 34.3 = $17,493. She must take a payment every year until she turns 59.5, seven and a half years away.

If she needs less than the whole IRA's payment, she can split the IRA in two first. The payments then come from only one account, and the other stays flexible.

Other exceptions to know

The penalty also doesn't apply in several other cases, each with its own conditions:

• death or disability
• medical costs above a share of your income
• health insurance premiums while unemployed (IRAs only)
• higher education costs and a first home purchase (IRAs only)
• a birth or adoption, a terminal illness, or certain emergencies and disasters
• payments to an ex-spouse under a court order (workplace plans only)

Roth IRA contributions are another source. What you put in can come out at any time with no tax or penalty. Converted amounts can come out penalty-free five years after each conversion.

How the app handles early withdrawals

By default, the app spends money that comes out without a penalty before money that doesn't. That includes cash, taxable accounts, Roth contributions and conversions past their five-year clock.

It recognizes the Rule of 55 for workplace plans you own. It applies when your retirement in the plan falls in or after the calendar year you turn 55. Governmental 457(b) withdrawals after you leave the job are penalty-free. Inherited IRAs are too.

Any other withdrawal before 59.5 pays the 10% penalty in the projection, and Cash flow shows it. The app doesn't set up or calculate a 72(t) payment schedule. If you use one, check the projected withdrawals against your schedule.

Frequently asked questions

Does the Rule of 55 apply if I take a new job?

Yes, for the plan of the job you left at 55 or later. Working somewhere new doesn't undo it. The new employer's plan has its own rules.

Can I use 72(t) on my 401(k)?

Only after you've left that employer. In practice, most people roll the money to an IRA first and set up the payments there.

Do these exceptions avoid income tax?

No. They only remove the 10% penalty. Traditional withdrawals are still taxed as ordinary income.