There are quite a few exceptions to the 20% penalty for taking out money from your IRA or 401(k) plan on the instructions for Form 5329. Here I will explain the meaning of the first exclusion You start by saying that your old pension plan was terminating. This means that you have a choice to rollover the old pension plan into another pension plan or to roll the old pension plan into an IRA. Both of these transaction choices take place from financial institution to financial institution; a rollover. If YOU CHOOSE to receive a lump sum from an old pension plan that was terminating then you have received the funds from your 401k and you have 60 days to complete the 401k rollover to another IRA or qualified plan. If have not finished the rollover within the time allowed the amount must be treated as ordinary income in the IRS's eyes. The lump-sum amount will be added to your income (which may put you in a higher tax bracket so you may pay a higher tax on the money you took. In addition, you will pay a 20% penalty to the IRS (and state tax + penalty) because you took the money from a retirement plan before you reached age 59 1/2. In my 40 years of tax preparation the average cost for all taxes and penalties will cost you approximately half of the lump sum money you took, ie if you took $5,000 you will pay IRS extra taxes and penalties $2,500. There will be additional taxes and penalties due for your state tax return. The exception you are quoting for the exception from paying the 20% penalty ONLY not income taxes 1. Due to separation from service in or after the year of reaching 55 (50 if public safety employee) (non-IRA) Let's work through the terms from the end to the beginning of the sentence. First, non-IRA would mean a 401(k) or a fund held by your employer as opposed to an IRA (Individual Retirement Account) which you may have established on your own at a financial institution. So to qualify for the exception from the 20% penalty it has to be a 401(k). The term “qualified public safety employee” for purposes of § 72(t)(10),means an employee of a State or of a political subdivision of a State (such as a county or city) whose principal duties include services requiring specialized training in the area of police protection, firefighting services, or emergency medical services for any area within the jurisdiction of the State or the political subdivision of the State. So if you are a public service employee then you only have to be 50 and not 55. The term separation from service occurs when the employee dies, retires, or otherwise has a termination of employment. So "termination" is not about the pension plan, you have the choice to roll the money into another plan or an IRA OR take the money and pay the taxes and penalties. You may want to look at the other exceptions from paying the 20% penalty such as paying medical expenses that are deductible under Sec 213 or paying an IRS levy. For an IRA ONLY, there is an exemption from paying the 20% penalty if you are unemployed and you pay the money for health insurance premiums, higher education, purchase your first home. The other exceptions to paying the 20% penalty are receiving the money in a series of substantially equal periodic payments, due to total and permanent disability, due to death, payment made to an alternate payee under a qualified domestic relations order (usually means in a divorce). Please remember that if you do not roll the money over into another 401(k) or an IRA you will owe income tax and if you do not qualify for any of the exceptions listed above, you will pay a 20% penalty for taking the money out and not rolling it over before you are 59 1/2.