When Can You Withdraw Money From Your IRA Without Paying the 10% Penalty?
Assuming you don’t qualify for an exemption, withdrawals from traditional, rollover, and SIMPLE-IRA accounts before age 59 1/2 incur an IRS 10% withdrawal penalty. Here are a few situations when withdrawals could be done without incurring this fee:
This guide should only serve as a general overview. If necessary, contact a financial professional for advice about your specific circumstances.
Unreimbursed Medical Expenses
Rothstein notes that unreimbursed medical expenses that exceed 7.5% of your adjusted gross income qualify for withdrawal without incurring the 10% penalty fee from an IRA, such as annual checkups and prescription costs; it doesn’t cover elective procedures like most plastic surgeries. You can take an IRA hardship withdrawal in order to pay health insurance premiums during any year you incur those costs if unemployed.
Beneficiaries who opt to treat an inherited IRA as their own are exempt from paying an early withdrawal penalty if they use distributions from it to help cover medical or housing expenses, but only one distribution per year qualifies. Furthermore, this penalty doesn’t apply when paying qualified education expenses like tuition fees and books from that inherited IRA.
Unemployment Compensation
Under certain conditions, it may be possible to withdraw funds from an IRA without incurring the 10% penalty. Unreimbursed medical expenses exceeding 7.5% of your adjusted gross income may qualify for penalty-free withdrawals (though you must still pay taxes on distribution). Unemployment compensation recipients can use their IRA assets to cover health insurance premiums while unemployed for at least 12 weeks before tapping them for health premium payments using their IRA assets.
The IRS allows first-time homebuyers and those undergoing terminal illness treatment to withdraw their IRAs penalty-free, as long as it was purchased within two years of opening it. Furthermore, withdrawals made via SEPP plans which allow periodic distributions from an IRA over your life or that of a beneficiary are exempt from this 10% penalty.
Permanent Disability
IRS guidelines allow penalty-free withdrawals from IRAs if you have been diagnosed with permanent disabilities, per the tax code definition: medical conditions that prevent an individual from performing “substantially gainful activity.” Usually this triggers disability payments from insurance or Social Security agencies or disability payments provided directly.
However, you can use IRA funds without incurring the 10% penalty to cover qualified education expenses for yourself, your spouse or children enrolled at least half time – such as tuition, fees and books as well as room and board costs for students living off-campus. Furthermore, withdrawals up to $10,000 without penalty can be made for first-time home buyers with the custodian of your IRA providing a form 1099-R detailing these distribution types.
Qualified Education Expenses
When college savings prove more challenging than anticipated, clients may be tempted to dip into their IRA funds as an alternative solution – however this may not be in their best interests and could end up costing them in the long run.
Distributions from Individual Retirement Accounts (IRAs, including Traditional, SEP and SIMPLE IRAs) are generally taxable and subject to a 10% penalty if not used for qualified educational expenses such as tuition fees, room and board, education-related supplies or equipment, computer or technology necessary for an educational purpose.
To avoid penalties, withdrawals must take place during the same year as paying education expense bills and must come from a vocational school, college or university; other conditions apply including that the student be enrolled or planned to enroll.
First-Time Home Purchase
As soon as you purchase your first home, you are allowed to withdraw up to $10,000 from your IRA without incurring a penalty. This applies both to contributions you’ve made and earnings on converted funds provided they’re used towards purchasing it – this rule only applies once!
This option is only available if you meet the IRS definition of being a first-time homebuyer, which means neither of you has owned any properties within two years, as this withdrawal rule has a lifetime limit and cannot be used again to purchase properties.
Instead of withdrawing funds from your IRA to cover down payment or closing costs, explore alternatives like down payment assistance programs or borrowing from family. They could be more cost-effective solutions that spare penalties and income taxes.
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