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Deductibility Limits on Traditional IRA Contributions & IRA Contribution Limits from 2002 to 2012
Hardship Withdrawals and Accessing 401(k) Loans
401(k) Rules – Contribution Limits, Catch-Up Contribution Rules, Vesting Rules, 401k Eligibility Rules
Salary Deferral Contributions Made to 401(k) Retirement Account
Important Year End Statements for Individual Retirement Account (IRA) Holders
5 Things Every 401(k) Plan Should Have
The Roth 401(k) – How After-Tax Contributions Work, Comparisons with Roth IRA, Future Tax Rates, Contribution Limits & Frequently Asked Questions
What is a Traditional IRA? History of IRAs, Eligibility Requirements, Ineligible Compensation, Distributions from a Traditional IRA & How Income Tax Deductions Work
How to Invest in Real Estate using your Individual Retirement Account (IRA)
Rolling your 401(k) – Trustee to Trustee Direct Rollover, Modified Adjusted Gross Income (MAGI) Income Limits for Deductible Contributions to a Traditional IRA
401(k) Vesting – How It Works, Vesting Schedule, Number of Years of Service
401(k) Lump Sum Distributions – Tax Advantages, Rollover to IRA, Tax Deferred Contributions and more
401k Rollovers to an Individual Retirement Account (IRA) – Things to Consider Before You Rollover, Avoid Transfer Penalties, Move Employer Stock, etc.
401(k) Withdrawals – Early Withdrawal Penalties, Rollover Withdrawals, Exceptions and Tax Consequences
Understanding the Rules for Participating in a 401(k) Plan, Beneficiary Appointment, 401(k) Plans for High Paid Employees

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401(k) Withdrawals – Early Withdrawal Penalties, Rollover Withdrawals, Exceptions and Tax Consequences

(July, 2011)

The purpose of 401(k) retirement plans is to encourage people to save for their retirement years and not rely on the country’s broken social security and pension system. Therefore, it is the responsibility of the government to impose rules and regulations that discourage withdrawal of funds from 401(k) retirement accounts. In this article, we explore the various rules encompassing 401k withdrawals, penalties involved, exceptions that may apply to you as well as tax consequences of 401(k) withdrawals.

Early 401(k) Withdrawals

Early 401k withdrawal is defined as any withdrawal from your 401(k) plan before the age of 59 and ½ years. This early 401k withdrawal is not limited only to 401(k) plans but also other plans including:
- An Individual Retirement Account (IRA) excluding educational IRAs
- Qualified employee annuity plans
- 403(b) plans for public school employees, etc.

Most premature or early 401(k) withdrawals have to be reported as income on your tax return. Not only this, you will also have to pay a 10% early withdrawal penalty on the funds you have withdrawn. Notice how harsh and cruel the IRS is with early 401(k) withdrawals, the reason being they want to discourage you from withdrawing money from your retirement account because you will need this money the most when you stop working and have no additional sources of income, other than your retirement nest egg. The government is also telling us to stop relying on social security, as the benefits from it are not secured.

401(k) Rollover Withdrawals and Distributions

There are no penalties charged on 401(k) funds withdrawn that you intend to rollover to another qualified retirement plan such as an IRA or 403(b) plan. This is because that money is still serving its recommended purpose, retirement nest egg. A 401(k) rollover is defined as when you withdraw cash, stocks, bonds or mutual fund shares from one qualified 401(k) plan to move to another qualified retirement plan, traditional IRA or a Roth IRA within 60 days.

Exceptions for 401(k) Early Withdrawal Penalty

You can avoid the 10% early withdrawal penalty on funds withdrawn prematurely from 401(k) plans if your withdrawal meets one of the following five criteria. These are known as ‘allowable 401(k) distributions.’ They are:

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- Distributions or withdrawals to pay off the IRS for any debts/levies owed.
- Distributions or withdrawals made to your estate after your death.
- Distributions made to you after you became permanently disabled.
- Distributions or withdrawals made to you if your medical expenses exceed 7.5% of your adjusted gross income. You may then take a withdrawal up to the maximum of your medical expense in excess of 7.5%
- Distributions or withdrawals made as part of a series of substantially equal periodic payments over life expectancy of the owner and the beneficiary.

 

 


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