Life sometimes throws you a financial curve ball. So, you may have to take money out of your Traditional IRA earlier than you had planned. Your early withdrawal will be taxed, and if you withdraw the funds prior to age 59½, you will be hit with a 10 percent early withdrawal penalty on the regular income tax you owe.
However, the tax law also includes a laundry list of exceptions to the early withdrawal penalty. Here are some of the more common exceptions:
- Medical expenses. You can use early IRA distributions without facing the penalty, if you have medical expenses that are more than 10 percent of your adjusted gross income.
- Healthcare insurance. If you are unemployed and use IRA distributions to pay for healthcare insurance, you can avoid the early withdrawal penalty. However, you must meet these additional requirements:— You received unemployment compensation for 12 consecutive weeks because you lost your job.
— You received the IRA withdrawal in the year you received unemployment compensation or in the following year.
— If you have been re-employed, you must not have taken the IRA distributions more than 60 days after you were newly employed.
- Disability. If you are disabled and have doctor’s verification that you are unable to work, you may qualify for an exemption.
- Qualified higher education expenses. You can avoid the early withdrawal penalty if you use the IRA distributions for qualified higher education expenses for yourself, your spouse, your children, or grandchildren. Use caution, however, as the IRA distributions you receive are taxable income and may impact the student’s ability to qualify for financial aid.
- First-time home purchase. You may withdraw up to $10,000 from your IRA to build, buy, or rebuild a first home for yourself, your parent, your spouse, or your children or grandchildren, without being subject to the early withdrawal penalty.
- Military service. Under certain conditions, members of the military can take early withdrawals and avoid the early withdrawal penalty.
What about Roth IRAs? Although withdrawals from a Roth IRA that has been in existence at least five years are completely tax-free after age 59½, earlier distributions are still taxable and subject to the 10 percent tax penalty, unless an exception applies.
Keep in mind that you may have to meet specific conditions to qualify for these exceptions. Please give us a call if you have questions about your situation.