IRC 3405: Withholding on Pensions, Annuities, and Rollovers

The withholding rules in IRC Section 3405 split retirement payouts into three buckets, and the rate you’ll see depends on which bucket your distribution falls into. Periodic payments — a monthly pension or scheduled annuity — are withheld like wages using the tables in IRS Publication 15-T, based on the Form W-4P you file with the payer. Nonperiodic payments, like an on-demand IRA withdrawal or a required minimum distribution, default to 10% withholding, which you can raise, lower, or waive on Form W-4R. Eligible rollover distributions from a qualified plan carry a mandatory 20% federal withholding that you cannot reduce or opt out of unless you elect a direct rollover to another plan or IRA.¹

Which Distributions Section 3405 Covers

The statute reaches any “designated distribution” from three broad sources: employer deferred compensation plans (401(k)s, profit-sharing plans, defined benefit pensions), individual retirement plans (traditional and Roth IRAs), and commercial annuities. Government 457(b) plans run by state or local employers are in as well.¹

Several payouts are carved out. Distributions already treated as wages go through regular payroll withholding instead. Payments to nonresident aliens fall under a separate 30% withholding regime (or a lower treaty rate).² Any portion of a distribution the payer reasonably believes is nontaxable is excluded — and that’s where the Roth line falls. Qualified Roth IRA distributions reasonably believed to be nontaxable aren’t designated distributions at all, so no withholding is required. Traditional IRA distributions are treated the opposite way: the whole distribution is considered includible in gross income for withholding purposes, even the sliver that represents after-tax contributions.

Periodic Payments and Form W-4P

A periodic payment is one paid at regular intervals over more than a year — a monthly pension check, a scheduled annuity installment. These are withheld the same way wages are. The payer runs your payment through the IRS percentage-method tables in Publication 15-T and remits the result.³

You control the calculation with Form W-4P. It works much like the W-4 you filed at a job: filing status, dependents, and any extra withholding you want added on top.⁴ Skip the form and the payer treats you as a single filer with no adjustments, which usually withholds more than a retiree actually owes.⁵ The old default assumed married filing jointly and often withheld too little; the current single-filer default leans the other way. A completed W-4P is worth the few minutes it takes. Your W-4P stays in effect until you file a new one, and the payer must implement the change within a reasonable time after receiving it.

Nonperiodic Payments: The 10% Default

Anything that isn’t a scheduled installment across more than a year is a nonperiodic payment: lump sums, partial withdrawals, on-demand IRA distributions, required minimum distributions. If the payment does not qualify for rollover treatment, the default withholding rate is 10% of the gross distribution.¹

You adjust that rate on Form W-4R. For non-eligible nonperiodic payments, you can pick anywhere from 0% to 100%.⁶ If you don’t file a W-4R, the payer must withhold 10% and cannot honor a verbal request for something different. The same 10% floor applies if you don’t provide a valid Social Security number.

A common source of confusion: the 10% default withholding is not the same as the 10% additional tax on early distributions under Section 72(t). Withholding is a prepayment on your annual tax bill, like paycheck withholding. The early distribution penalty is a separate tax that hits distributions taken before age 59½ without an exception. Both can apply to the same withdrawal.

Eligible Rollover Distributions: The Mandatory 20%

An eligible rollover distribution is a payment from a qualified plan that could be rolled over tax-free into another qualified plan or IRA. If the money is paid to you rather than sent directly to another retirement account, the payer must withhold 20% of the gross amount. You cannot negotiate a lower rate, and Form W-4R won’t help — for eligible rollover distributions, the form only lets you request more than 20%, never less.⁶

The only way around the 20% is a direct rollover under Section 401(a)(31)(A), where the funds move from one plan to the next without touching your hands.¹

This creates a real trap for anyone attempting a 60-day indirect rollover. Take a $100,000 distribution in cash and the payer sends you $80,000 and the IRS $20,000. To roll over the full amount and avoid tax on any of it, you have to deposit $100,000 into a qualifying plan within 60 days — meaning you have to come up with $20,000 from other funds to replace what was withheld.⁷ You’ll get that $20,000 back as a credit when you file, but you need the cash now. When people can’t bridge the gap, they roll over only $80,000 and end up owing tax and possibly the 10% early distribution penalty on the remaining $20,000.

W-4P Versus W-4R

The two forms are not interchangeable. Form W-4P is for periodic payments only — recurring pension and annuity installments.⁴ Form W-4R covers everything else: nonperiodic payments and eligible rollover distributions.⁸ Sending the wrong one delays your payout or produces the wrong withholding.

How to Elect Out (and Where You Can’t)

For periodic payments and non-eligible nonperiodic payments, you can elect zero withholding. On a W-4P you indicate no withholding; on a W-4R you enter 0%.⁶ For eligible rollover distributions, there is no election that gets you below 20%. Only a direct rollover keeps the money whole.¹

For nonperiodic distributions, the opt-out typically applies one distribution at a time. If you take several withdrawals from the same IRA in a year, you may need to submit a new W-4R for each — though the regulations let some payers apply a single election to all future nonperiodic distributions from the same account. Ask your custodian which practice they follow. A W-4P election stays in effect until you file a new one.

What Skipping Withholding Actually Costs

Electing zero withholding does not lower your tax. It shifts the timing. Federal tax has to be paid as you receive income across the year, so waiving withholding on retirement distributions means quarterly estimated payments on Form 1040-ES.

To avoid an underpayment penalty, you generally need to have paid, through some combination of withholding and estimated payments, at least 90% of the current year’s tax or 100% of the prior year’s tax.⁹ If your adjusted gross income tops $150,000 ($75,000 if married filing separately), the prior-year safe harbor rises to 110%.¹⁰ A large unwithheld distribution can also drag more of your Social Security benefits into the taxable column, so the real tax cost is often higher than a quick marginal-rate calculation suggests.

Inherited Accounts

The three-bucket framework applies to beneficiaries too, but which bucket you’re in depends on how you receive the money. A surviving spouse who rolls an inherited account into their own IRA is treated as the new owner going forward, and normal withholding rules apply.

Non-spouse beneficiaries have fewer options. They generally cannot roll an inherited plan balance into their own retirement account — only into an inherited IRA through a direct trustee-to-trustee transfer. A distribution paid directly to a non-spouse beneficiary from a qualified plan is typically an eligible rollover distribution subject to the mandatory 20% withholding unless they elect a direct rollover to an inherited IRA. Distributions taken from an inherited IRA, on the other hand, are nonperiodic payments at the 10% default rate, and the beneficiary can adjust or waive that on Form W-4R.⁶

Beneficiaries under the SECURE Act’s 10-year rule should think about withholding across the whole window, not just the final year. Postponing the bulk of the withdrawals to year ten concentrates a large taxable amount in one year and can push the beneficiary into a higher bracket. Spreading distributions and calibrating W-4R elections each year usually produces a smaller total tax bill.

1
Office of the Law Revision Counsel. 26 U.S. Code 3405 – Special Rules for Pensions, Annuities, and Certain Other Deferred Income
2
Office of the Law Revision Counsel. 26 U.S. Code 1441 – Withholding of Tax on Nonresident Aliens
3
Internal Revenue Service. Publication 15-T (2026), Federal Income Tax Withholding Methods
4
Internal Revenue Service. About Form W-4P, Withholding Certificate for Periodic Pension or Annuity Payments
5
Internal Revenue Service. Form W-4P, Withholding Certificate for Periodic Pension or Annuity Payments
6
Internal Revenue Service. Form W-4R, Withholding Certificate for Nonperiodic Payments and Eligible Rollover Distributions
7
Internal Revenue Service. Rollovers of Retirement Plan and IRA Distributions
8
Internal Revenue Service. About Form W-4R, Withholding Certificate for Nonperiodic Payments and Eligible Rollover Distributions
9
Internal Revenue Service. Topic No. 306, Penalty for Underpayment of Estimated Tax
10
Office of the Law Revision Counsel. 26 USC 6654 – Failure by Individual To Pay Estimated Income Tax