In general, a 10% penalty applies when you access your IRA, 401(k), and other retirement accounts before age 59. The word “penalty” seems harsh, so the Internal Revenue Code classifies it as an excise tax on early distributions. Moreover, the 10% excise tax is in addition to the ordinary income taxes owed on distributions from pretax accounts. Therefore, the general rule of keeping your hands off these funds until at least age 59.5 is a good one.
However, what if you really need the money?
Fortunately, there are exceptions to the 10% penalty rule. A complete list may be found here.
For example, “first-time” homebuyers may take out up to $10,000 to help buy or build their primary residence. A similar exception applies to higher education costs for you, your spouse, or children. These two apply for IRAs, but not 401(k) accounts.
Another exemption for medical expenses paid on behalf of yourself, your spouse, or a dependent applies only on the amount that exceeds 10% of your adjusted gross income. Let’s assume Bob and Mary are facing significant ($170,000) medical expenses for their son, Bob Jr. The expenses are not covered by their regular health insurance plan, so the couple withdraws $170,000 from Bob’s IRA. In addition to pension and social security, this distribution increases their Adjusted Gross Income to $250,000, so Bob and Mary will pay about $2,500, the 10% excise tax on approximately $25,000.
It is best to avoid early distributions from your IRA and 401(k) accounts; after all, the money is meant for your retirement years.
However, in the event there are no other alternatives, you may be able to avoid the 10% penalty….er, excise tax.
Timothy Wyman, CFP®, JD, is the Managing Partner and CERTIFIED FINANCIAL PLANNER™ professional at Center for Financial Planning, Inc.® For the second consecutive year, in 2019 Forbes included Tim in its Best-In-State Wealth Advisors List in Michigan¹. He was also named a 2018 Financial Times 400 Top Financial Advisor²
¹ The Forbes ranking of Best-In-State Wealth Advisors, developed by SHOOK Research is based on an algorithm of qualitative criteria and quantitative data. Those advisors that are considered have a minimum of 7 years of experience, and the algorithm weighs factors like revenue trends, AUM, compliance records, industry experience and those that encompass best practices in their practices and approach to working with clients. Portfolio performance is not a criteria due to varying client objectives and lack of audited data. Out of 29,334 advisors nominated by their firms, 3,477 received the award. This ranking is not indicative of advisor's future performance, is not an endorsement, and may not be representative of individual clients' experience. Neither Raymond James nor any of its Financial Advisors or RIA firms pay a fee in exchange for this award/rating. Raymond James is not affiliated with Forbes or Shook Research, LLC. Links are being provided for information purposes only. Raymond James is not affiliated with and does not endorse, authorize or sponsor any of the listed websites or their respective sponsors. Raymond James is not responsible for the content of any website or the collection or use of information regarding any website's users and/or members. Any opinions are those of Center for Financial Planning, Inc.® and not necessarily those of Raymond James.
² The FT 400 was developed in collaboration with Ignites Research, a subsidiary of the FT that provides special-ized content on asset management. To qualify for the list, advisers had to have 10 years of experience and at least $300 million in assets under management (AUM) and no more than 60% of the AUM with institutional clients. The FT reaches out to some of the largest brokerages in the U.S. and asks them to provide a list of advisors who meet the minimum criteria outlined above. These advisors are then invited to apply for the ranking. Only advisors who submit an online application can be considered for the ranking. In 2018, roughly 880 applications were re-ceived and 400 were selected to the final list (45.5%). The 400 qualified advisers were then scored on six attrib-utes: AUM, AUM growth rate, compliance record, years of experience, industry certifications, and online accessibil-ity. AUM is the top factor, accounting for roughly 60-70 percent of the applicant's score. Additionally, to provide a diversity of advisors, the FT placed a cap on the number of advisors from any one state that's roughly correlated to the distribution of millionaires across the U.S. The ranking may not be representative of any one client's experi-ence, is not an endorsement, and is not indicative of advisor's future performance. Neither Raymond James nor any of its Financial Advisors pay a fee in exchange for this award/rating. The FT is not affiliated with Raymond James.
The foregoing information has been obtained from sources considered to be reliable, but we do not guarantee that it is accurate or complete, it is not a statement of all available data necessary for making an investment decision, and it does not constitute a recommendation. Any opinions are those of the author and not necessarily those of Raymond James