What Can You Withdraw From an IRA Without Penalty?
The rules surrounding IRA withdrawals are relatively straightforward. Your contributions can be withdrawn without penalty, while conversions and earnings may also be taken out if certain criteria are met.
However, if you withdraw investment earnings prior to turning 59 1/2, taxes and a 10% penalty will apply. There are exceptions however; please read below.
1. You can withdraw money to pay for unreimbursed medical expenses
The IRS allows penalty-free withdrawals from both your traditional and Roth IRA if they’re needed for certain expenses, including unreimbursed medical costs exceeding 10% of AGI, qualified higher education costs and health insurance premiums for yourself and any dependents. You may also take an early distribution if permanently disabled, fulfilling an IRS levie or buying your first home; but income tax will still apply on these withdrawals.
Slott says an IRA can be used to cover medical expenses provided the withdrawal is made in the year of incurrence, to avoid an end-of-year catch. For example, if you place a medical bill on your credit card in 2022 and plan to use funds from an IRA account to cover it, payment must be made against the credit card bill before 2022 in order to avoid incurring the 10% penalty fee.
2. You can withdraw money to pay for college expenses
IRS rules allow IRA owners to withdraw money penalty-free from their accounts to pay for higher education expenses, with one restriction: both transactions must occur during the same calendar year.
Distributions may be used for education expenses incurred by account owners, their spouse, their children and grandchildren, at qualified higher education institutions – public or non-profit colleges, universities or vocational schools that participate in federal student aid programs and offer tuition, fees, books, supplies and equipment essential for course completion as well as room and board expenses qualify as qualifying expenditures.
Please keep in mind that even though you won’t owe the 10% early withdrawal penalty, regular income tax still needs to be paid on each distribution. Consulting with an experienced tax professional is key in assessing what taxes may owe and filling out necessary forms – this option provides a far more tax-efficient alternative than taking out student loans with interest payments attached.
3. You can withdraw money to buy a first home
As a first-time homebuyer, the IRS allows you to withdraw funds from your IRA without penalty; however, they must be used towards purchasing and closing on a home within 120 days after receiving their distribution and then returned within 60 days to an IRA or similar account.
Applying your IRA funds toward home purchases could prove expensive if not planned correctly, due to lost compound interest due to withdrawal. Doing so could reduce how much will remain for future retirement plans.
Traditional IRA withdrawals are generally taxed at ordinary income tax rates and subject to a 10% early withdrawal penalty, unless an exception applies. There may be certain withdrawal exemptions that avoid this penalty such as for unreimbursed medical expenses, health insurance premium payments for unemployment benefits and home purchases for first time buyers – though it would likely be better to find alternative financing for your house purchase.
4. You can withdraw money to pay for health insurance premiums
Traditional IRAs allow you to contribute pre-tax dollars and pay no income taxes until retirement when earnings will be taxed as income. Roth IRAs allow after-tax contributions with withdrawals being tax-free after age 59.5.
In general, an IRA allows for penalty-free distributions to cover medical expenses like annual checkups, prescriptions and certain surgeries. You can also withdraw funds penalty-free to cover health insurance premiums for yourself, your spouse and any dependents enrolled with you – although these exemptions don’t extend to elective procedures such as most plastic surgeries.
Dependence upon your financial reason is key in terms of penalties and extra taxes owed; withdrawals taken before age 59 1/2 will require both taxes and an early withdrawal penalty of 10%; however, legal orders such as IRS tax levies could give special rules which help mitigate these fees.
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