“I need money from my IRA, but I am under 59½. How can I avoid the penalty?”
From time to time, everybody encounters a situation that can be fixed with money. Many Americans save money through their qualified retirement plans at work, such as a 401(k) and/or an Individual Retirement Account. Sometimes accessing these accounts to address a financial emergency might be the only option. If that is the case, there are some rules you must follow to avoid a 10% penalty courtesy of the IRS.
Let’s start with your IRA. If you are 59 ½ or older, there is generally no problem getting money from your IRA. Just remember that these distributions are fully taxable as ordinary income. If you are younger, a few exceptions can help you avoid the additional 10% penalty tax:
• Paying college expenses for yourself, your spouse, children or grandchildren
• Paying medical expenses (that exceed 7.5% of your AGI in 2018, 10% after 2018)
• Qualified Reservists who are called to active duty for more than 179 days
• Disability (a doctor will need to verify you cannot do any substantial gainful activity)
• Paying for a first-time home purchase (up to $10,000)
This is not an exhaustive list, and further limitations are set forth under IRS Code 72t.
But what if you need additional income? The IRS has one more option: “Substantially equal periodic payments”.
You can choose from three different methods to calculate the maximum amount you can withdraw each year. Once chosen, there are specific rules to follow; for example, the payments must continue until you reach age 59½ or for 5 years, whichever is longer – even if you no longer need or want the funds. If you stop before then, or make changes to the plan, or contribute to that IRA, your SEPP plan will be “unwound”, and you will be hit with a retroactive tax penalty that goes all the way back to when you first started receiving payments. So this decision should not be made without careful planning or knowing all the facts.
The IRS has an FAQ page for this. (A few minutes at this site should illustrate why many choose to work with a professional advisor.)
What about your 401(k) or other qualified funds? Some plans allow “hardship withdrawals”, but these do not avoid the penalty. Your best bet might be a one-time rollover from your qualified plan into an IRA with fewer restrictions and more options. However, the IRS allows employees 55 and older who are laid off, fired, or who quit a job to pull money out of their 401(k) or 403(b) plan without penalty.
Navigating tax laws can be complicated. Always seek professional assistance. Also remember that while raiding your retirement account(s) might solve an immediate financial crisis, you could be jeopardizing your retirement income. If you would like to schedule a complimentary financial/retirement planning consultation, visit www.fpc.money.
The information contained herein is not tax or accounting advice. For tax or accounting advice you should consult the appropriate professional, such as a CPA or tax advisor. The information provided in this document is for informational/educational purposes. It should not be used to make any financial decisions. Material presented is believed to be from reliable sources; however, Financial Planning Center, LLP makes no representations as to its accuracy or completeness. All information and ideas should be discussed in detail with your individual financial services professional or a qualified professional before making any financial decisions.