Proof of Disability for Penalty-free 401k Withdraw

L1: Proof of Disability for Penalty-free 401k WithdrawQuestion: What proof of permanent and total disability isrequired in order to make unrestricted withdrawals from a 401k without incurring a penalty?
Background: I have a friend (age 53) who was recently diagnosed with a form of vascular dementia, leaving her unable to work and support herself. She has applied to social security for disability support, but may not receive a ruling for several months. She has no money remaining in her non-tax deferred accounts, but has a substantial 401k account which could support her until her company pension starts in 2 years. She has medical reports from two doctors diagnosing her with Binswanger’s Disease. This is a progressive form of vascular dementia that generally requires the person to be institutionalized in 2-4 years of being diagnosed and results in death 4-8 years after being diagnosed. What other documentation, if any, is needed by the IRS to allow her to make withdrawals without penalty from her 401k?
Regards,
Rick Longbrake2003-07-12 11:20, By: RickLongbrake, IP: [127.0.0.1]

L2: Proof of Disability for Penalty-free 401k WithdrawYou are dealing with an employer sponsered plan. Start by checking the Plan Document and then contact the Plan Administrator – he/she wil make the final call.2003-07-12 18:05, By: Gfw, IP: [127.0.0.1]

L2: Proof of Disability for Penalty-free 401k WithdrawThanks for the response.
Just to follow-up: I checked with the plan administrator, they do not require any proof of disability. They just flag the 1099 form as being an early distribution. I checked with the IRS Email Tax Law Assistance program on the IRS website and they sent the following reply:
“An individual is considered permanently and totally disabled if they are unable to engage in any substantial gainful activity by reason of any medically determinable physical or mental impairment that can be expected to result in death or to last for a continuous period of not less than 12 months. This impairment should be substantiated by a letter from a certified physician kept in the taxpayer’s records. If her Form 1099R reporting the distribution is reason coded for disability, no separate form is needed. If it is not so coded, she will need to File Form 5329 with her Form 1040. She will complete Part I and on line 2 for exception number she will enter 03. This means she is not liable for the premature distribution penalty due to her disability.”
From this I take it that a letter from her primary physician would be sufficient proof for tax purposes.
Thanks again,
Rick Longbrake
2003-07-17 13:35, By: RickLongbrake, IP: [127.0.0.1]

L2: Proof of Disability for Penalty-free 401k Withdraw

Hello Rick:
Don’t beleive everything you read; even on an IRS website. Following is an excerpt from my book which covers disability.
TheBadger
wjstecker@wispertel.net
The full text of exception #3 says, “attributable to the employee’s being disabled within the meaning of subsection (m)(7).” “Attributable” means that in order to use this exception, you, personally, must be physically and/or mentally disabled according to the following definition:
“…an individual shall be considered to disabled if he is unable to engage in any substantial gainful activity by reason of any medically determinable physical or mental impairment which can be expected to result in death or to be of long-continued or indefinite duration. An individual shall not be considered to be disabled unless he furnishes proof of the existence thereof in such form and manner as the Secretary may require.”
What does the preceding mean? First, with certainty, if you choose to use this exception and are subsequently audited, you will be required to present external proof and evidence that you are disabled. Second, the IRS has issued a fairly in-depth regulation on this subject. It says in part:
“In determining whether an individual’s impairment makes him unable to engage in any substantial gainful activity [emphasis added], primary consideration shall be given to the nature and severity of his impairment. Consideration shall also be given to other factors such as the individual’s education, training, and work experience. The substantial gainful activity to which section (m)(7) refers is the activity, or comparable activity, in which the individual customarily engaged prior to the arising of the disability…”
IRC Reg. 1.72-17A(f)
The above Code and regulation language imply several tests or hurdles that must both be met or exceeded in order to qualify for this exception. They are:

Effectively, the disability must be total as opposed to partial. As an example, some one may be disabled in all outward appearances; however, if that person were capable of (irrespective of whether he does or not) returning to work on a part-time basis performing his or her pre-disability job function; then that person would not be considered disabled under this definition.

The disability is always measured in context to the individual’s pre-disability occupation. As an example, two brothers are in a vehicular accident resulting in both brothers becoming paraplegic & both brothers fully recover but for the use of their legs. One brother was a professional football player & the other was a surgeon. The former is disabled, the later is not. At one time, cancer was considered, almost automatically, to be a total and permanent disability. With the advent of new drugs & surgical procedures this is no longer the case. As a result, at least over some moderate to lengthy period of time, the concept of “disability” becomes somewhat of a moving target.
The IRS will consider any and all external evidence you produce but is not necessarily bound or obligated to honor that evidence in making its determination. Such evidence usually will include physician statements, employer statements, proof that you are already collecting private disability insurance, and Social Security disability proceeds — Social Security being the most persuasive evidence. Further, being disabled has been classified as a “facts and circumstances” test by the IRS, accordingly, they will not rule in advance on this issue for individual taxpayers, nor is there any list existing that automatically creates disabled status. As a result, this author believes that using this exception is a fairly dangerous strategy unless the disability is beyond a shadow of a doubt. With any lesser disability, a taxpayer is well advised to seek the professional opinion of an attorney who specializes in disability matters.2003-07-17 13:51, By: TheBadger, IP: [127.0.0.1]

L2: Proof of Disability for Penalty-free 401k WithdrawBadger, thanks for the reply.
I should know that it’s never as easy as it sounds.
I did expect that claiming a disability exception would increase the chances of an audit. Although I think she should be able to withstand an audit. This is a person who until a few years ago was a IT manager, programmer and person who taught computer science classes at a local university….and now she cannot even balance her own checkbook.
But, I will recommend to her family that she follow your advice about running this by a tax lawyer.
Regards,
Rick Longbrake2003-07-17 14:09, By: RickLongbrake, IP: [127.0.0.1]