You are generally allowed to make one withdrawal from your 401(k) without penalty each year. The withdrawn amount is subject to income tax as ordinary income. However, you may be able to make additional withdrawals if you meet certain criteria, such as being disabled, having unreimbursed medical expenses that exceed 7.5% of your adjusted gross income, or using the funds to pay for qualified higher education expenses. It’s important to be aware of the tax implications and withdrawal limits to avoid any penalties or fees.
Penalties
Withdrawing money from your 401(k) before you reach age 59½ may result in a 10% penalty.
Qualified Withdrawals
- Age 59½: Once you reach age 59½, you can withdraw money from your 401(k) penalty-free. You can also take loans from your 401(k) up to $50,000, or 50% of your vested account balance, whichever is less.
- Permanent disability: If you become permanently disabled, you can withdraw money from your 401(k) penalty-free.
- Death: If you die, your beneficiaries can withdraw the money from your 401(k) penalty-free.
- Substantially equal periodic payments: You can withdraw money from your 401(k) penalty-free if you take substantially equal periodic payments over your life expectancy or the joint life expectancy of you and your spouse.
- Health expenses: You can withdraw money from your 401(k) penalty-free to pay for unreimbursed medical expenses that exceed 7.5% of your adjusted gross income.
- Higher education expenses: You can withdraw money from your 401(k) penalty-free to pay for qualified higher education expenses for yourself, your spouse, or your children.
- First-time home purchase: You can withdraw up to $10,000 from your 401(k) penalty-free to buy a first home.
- Military reservists: You can withdraw money from your 401(k) penalty-free if you are called to active duty for more than 179 days.
Non-Qualified Withdrawals
If you withdraw money from your 401(k) before you reach age 59½, you will be subject to a 10% early withdrawal penalty, in addition to income taxes on the amount withdrawn. However, there are some exceptions to this rule. You can avoid the early withdrawal penalty if you:
- Have reached age 55 and are separated from service in the same year.
- Are taking substantially equal periodic payments over your life expectancy or the joint life expectancy of you and your spouse.
- Are withdrawing money to pay for qualified higher education expenses.
- Are withdrawing money to pay for unreimbursed medical expenses that exceed 7.5% of your adjusted gross income.
- Are withdrawing money to buy a first home.
- Are withdrawing money to pay for military reservist expenses.
Consequences of Withdrawing Money From Your 401(k)
Withdrawing money from your 401(k) before you reach age 59½ can have several negative consequences.
- Early withdrawal penalty: You will be subject to a 10% early withdrawal penalty if you withdraw money from your 401(k) before you reach age 59½.
- Income taxes: You will have to pay income taxes on the amount withdrawn from your 401(k).
- Reduced retirement savings: Withdrawing money from your 401(k) can reduce your retirement savings. This can make it more difficult to reach your retirement goals.
Table of Qualified Withdrawals
| Reason for Withdrawal | Age Requirement | Penalty |
|—|—|—|
| Age 59½ | 59½ | No |
| Permanent disability | Any | No |
| Death | Any | No |
| Substantially equal periodic payments | Any | No |
| Health expenses | Any | No |
| Higher education expenses | Any | No |
| First-time home purchase | Any | No |
| Military reservists | Any | No |
Roth 401(k) Withdrawals
Roth 401(k) withdrawals are generally tax-free because contributions are made after-tax. This means you won’t pay income taxes on the money you withdraw, but you may have to pay taxes on any earnings if you withdraw them before age 59½.
- Withdrawals of principal (the amount you contributed) are tax-free at any age.
- Withdrawals of earnings are tax-free if you are age 59½ or older and have held the account for at least five years.
- Withdrawals of earnings before age 59½ are subject to income taxes and a 10% early withdrawal penalty.
| Withdrawal Age | Tax Treatment |
|---|---|
| Under age 59½ | Earnings: Taxable + 10% penalty Principal: Tax-free |
| Age 59½ or older, held account for at least 5 years | Earnings: Tax-free Principal: Tax-free |
Plan Distribution Options
When you retire or leave your job, you have several options for withdrawing money from your 401(k) plan. The options available to you will depend on the plan’s rules and your age.
Withdrawals Before Age 59½
If you take money out of your 401(k) before you turn 59½, you’ll have to pay income tax on the withdrawal, plus a 10% early withdrawal penalty. **However, there are some exceptions to this rule:**
- Substantially equal periodic payments: You can avoid the 10% penalty if you take substantially equal periodic payments from your 401(k) for at least five years or until you reach age 59½.
- Medical expenses: You can withdraw money from your 401(k) to pay for qualified medical expenses without paying the 10% penalty.
- Higher education expenses: You can withdraw money from your 401(k) to pay for qualified higher education expenses for yourself, your spouse, or your dependents without paying the 10% penalty.
- First-time home purchase: You can withdraw up to $10,000 from your 401(k) to buy a first home without paying the 10% penalty.
- Disability: You can take penalty-free withdrawals if you are considered disabled under the Social Security definition.
Withdrawals After Age 59½
Once you turn 59½, you can take money out of your 401(k) without paying the 10% early withdrawal penalty. **However, you will still have to pay income tax on the withdrawal.**
Required Minimum Distributions (RMDs): Once you reach age 72, you must start taking RMDs from your 401(k). RMDs are the minimum amount of money that you must withdraw from your 401(k) each year. If you don’t take the required amount, you’ll have to pay a 50% penalty on the shortfall.
Roth 401(k) Withdrawals
Roth 401(k) withdrawals are different from traditional 401(k) withdrawals. **With a Roth 401(k), you contribute after-tax dollars, which means that you don’t get a tax deduction for your contributions.** However, qualified withdrawals from a Roth 401(k) are tax-free. This means that you can take money out of your Roth 401(k) without paying any income tax or penalties.
Table of Withdrawal Options
The following table summarizes the withdrawal options for traditional and Roth 401(k) plans:
| Withdrawal Option | Traditional 401(k) | Roth 401(k) |
|---|---|---|
| Withdrawals before age 59½ | Income tax + 10% penalty | Income tax + 10% penalty (unless qualified withdrawal) |
| Withdrawals after age 59½ | Income tax | Tax-free (if qualified withdrawal) |
| Required Minimum Distributions (RMDs) | Yes (after age 72) | No |
Well, there you have it! Now you know all about the ins and outs of 401(k) withdrawals. Remember, it’s always best to consult a financial advisor before making any big money moves. But hey, at least now you’ll have a good starting point for the conversation.
As always, thanks for dropping by my humble article corner! If you found this piece helpful, be sure to swing by again soon. I’ll be here with more financial wisdom, life hacks, and whatever else tickles my fancy. Stay tuned!