Early Withdrawal Penalty

Early Withdrawal Penalty whether it is a 401(k) or an IRA is 10 percent and income taxes. Even if your retirement account is a Roth IRA or Roth 401(k), it may trigger income taxes on top of the 10 percent penalty.

To avoid penalties, you generally need to be over the age of 59 and a half and the account must be at least five years old. However, there are ways if you don’t meet the requirements. It mostly comes down to why you withdraw early from your retirement account.

For example, if the reason for early withdrawal is to pay medical insurance premiums after a job loss, there isn’t a 10 percent penalty. However, the amount withdrawn will still be added to the gross income. The taxpayer who withdraws money will receive a Form 1099-R reporting this income.

Avoiding Early Withdrawal Penalty

There are other ways the 10 percent penalty can be waived. If you withdraw early from your retirement account because of the following, you won’t pay the 10 percent penalty.

  • To buy, build, or rebuild a home
    • It is possible to withdraw up to $10,000 for buying, building, or rebuilding a home. For this, you must be considered a first-time homebuyer though. The $10,000 limit is a lifetime limit but if you’re married, your spouse also gets another $10,000.
  • To pay for higher-education expenses
    • You can help yourself pay the costs of higher-education expenses by withdrawing early from your retirement. Using the IRA assets to pay for any qualified education expenses waives the 10 percent penalty. you can use your retirement to pay for your, or your spouse’s and child’s higher-education expenses.
  • Being called to active duty
    • If you’ve been called to active duty, your qualified reservist distributions aren’t subject to the 10 percent penalty. In addition to not paying the penalty, you can repay distributions within two years of the end of your active duty.
  • Permanent disability
    • After becoming permanently disabled, the IRS allows you to withdraw money from a retirement account without the 10 percent penalty. Before you withdraw any money though, we suggest providing the plan administrator with documents that prove your disability.

Back to the first and possibly the most common reason people are going to withdraw early from their retirement— unemployment. While you’re unemployed due to a loss of a job or you’re receiving unemployment compensation for at least 12 weeks, you can withdraw early and avoid the 10 percent penalty.

Also, while you’re unemployed, you can avoid the early withdrawal penalty if you withdraw money to pay your unreimbursed medical expenses.

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