Risks of Taking Cash from Retirement Account
Low on money and considering tapping your
retirement savings? Think about the following before making a withdrawal.
Before dipping into your retirement savings, take a close look at your finances and your other options.
- Do you know where your money is going?
- Could you find the money you need by slashing expenses and plugging spending leaks in your budget?
- Can you use the money you’ve set aside in a savings account for an emergency or find an alternative borrowing option?
As a general rule, if you are younger than 59 ½ and you withdraw money from a retirement account:
- You will pay a 10 percent early withdrawal penalty.
- The withdrawal will be taxed at your usual tax rate, based on your income.
To Minimize Penalties:
Make small withdrawals. The penalty only applies to income actually withdrawn. So rather than cash out your entire account in any one year, take the minimum amount you need to make ends meet. That leaves the rest of your retirement savings to keep growing on a tax-deferred basis. And you can always take a second or third withdrawal.
Return money in 60 days. You can withdraw funds from an IRA without taxes or penalty if you return the funds to a different IRA within 60 days.
Take it all in substantially equal payments. With IRAs, substantially equal payments means you withdraw roughly the same dollar amount per year for:
- five years or
- until you reach age 59 ½, whichever takes longer.
Exceptions to the Rule
After a late-career job loss. If you are 55 or older and “separated from service” (either quit work or are laid off) and you’ve been participating in a qualified retirement plan, such as a 401(k) or a pension plan, the 10 percent early withdrawal penalty does not apply. Just keep in mind that any amount withdrawn still will be taxable as ordinary income.
Roth IRA. Do you have money in a Roth IRA? If necessary, you can withdraw amounts up to the total contributions that you’ve made over the years without worry and without penalty, because your Roth IRA contributions went into the account after tax. Just be sure not to withdraw any earnings, because those may be taxable and subject to the 10 percent early withdrawal penalty, depending on your circumstances.
[Any reference to a specific company, commercial product, process or service does not constitute or imply an endorsement or recommendation by National Endowment for Financial Education.]