I lost my job last year and need to take care of a parent. In doing that, I must withdraw money from my retirement. I don’t understand the tax implications and penalties. I would also like access to any savings I have without restrictions or penalties. When I start my new job, what should I invest in going forward? I do not want another situation that comes up where the only way I can get my money is to take a huge penalty. The bulk of my money is in a traditional IRA and there’s a little in a Roth.
I’m sorry to hear that you’re dealing with these struggles and glad you asked about the best way to manage your retirement account withdrawals. Doing this the right way can help minimize your tax burden. That is especially important when preserving resources is crucial.
Most financial advisors caution against pulling money out of retirement accounts before retirement age. But when that’s the only way you can meet your essential expenses, such as housing, food and medicine, without getting buried in high-interest debt, it’s the right move. And you’ll want to do it in the most tax-efficient way.
Though you own the money in your retirement accounts, withdrawals before the official retirement age are restricted. The rules can be complicated but having a solid understanding of them can help you avoid paying IRS penalties.
In most cases, taking early distributions from retirement accounts will result in your getting less money than you need unless you account for the taxes and penalties. For example, say you need $10,000. Between the 10% early withdrawal penalty and the average 25% for federal and state income taxes, you may end up with only $6,500 cash in hand. To end up with the full $10,000, you’ll need to withdraw more than that from your retirement account.
I strongly advise working with a financial advisor when you’re working through this. They know strategies to minimize the taxes and penalties on your withdrawals and may have suggestions for other resources you could tap into.
Here’s what you need to know about the consequences of premature retirement distributions and potential ways to limit the damage.
Taking Money From a Traditional IRA
The general rule for traditional individual retirement accounts (IRAs) is this: If you take money before you reach age 59 1/2, you’ll pay regular income taxes on the withdrawal plus a 10% penalty. But there are some exceptions where you can avoid that extra 10% hit. Those include:
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Health insurance premiums you pay while you’re unemployed
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Complete and permanent disability
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Unreimbursed medical expenses in excess of 7.5% of your adjusted gross income (AGI)
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Up to $10,000 for a first-time home purchase
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Qualified higher education expenses
