Warning: Undefined variable $custom_content in /home4/comcompare/public_html/mortgagenews/wp-content/plugins/code-snippets/php/snippet-ops.php(582) : eval()'d code on line 10
A 401(k) plan can play an important role in your retirement income, so it’s important to limit the urge to withdraw early (at least before age 59 ½). . But things happen – and there are times in your life when you need a lonely buck.
For example, you may be dealing with a medical emergency, need a down payment on a home, or want to pay for college for your children. If you find yourself in this situation, make sure you are aware of the consequences of early withdrawal.
If you’re still thinking about withdrawing from your 401(k) early, here’s what you need to know about the penalty. What’s in a 401(k) Plan?
Traditional 401(k) plans are employer-initiated retirement accounts. They allow you to contribute pre-tax earnings through automatic payroll deductions.
Employers can also contribute to your account by editing your posts or making matching donations.
Your 401(k) account balance will grow over time not only from contributions but also from interest rates.
However, the Internal Revenue Service (IRS) limits how much you can contribute each year and when you can take distributions without penalty.
What Is An Early 401(k) Withdrawal?
An early 401(k) withdrawal occurs when you take distributions from your account before age 59 ½.
The accounts are designed to provide you with an additional source of income in retirement and therefore age distribution requirements.
If you decide to take an early withdrawal from your 401(k), the IRS will pay you a penalty. 401(k) early withdrawal penalty
How Much Is 401(k) Early Withdrawal Penalty?
The penalty for unexempt early withdrawals from your 401(k) is a 10% tax on the distribution amount.
You must report the 401(k) distribution on your tax return for the tax year in which you made the withdrawal.
The amount must be included in your total tax balance due or refunded to you.
For example, if you’re a 35-year-old single filer and you’ve earned $60,000 by 2022, your tax rate will be 22%.
If you take a $20,000 401(k) distribution, you add $20,000 to your income for the year, which can affect your taxes.
In this case, you still fall into the 22% tax category. As a result, you will owe $4,400 in distribution taxes and an additional $2,000 in 10% early distribution tax.
In total, the early distribution will cost you a whopping $6,400, leaving you with a net worth of $13,600.
It’s usually best to keep your 401(k) funds in the account until retirement. This will potentially increase it to earn interest on the account and avoid large tax penalties.
However, in some situations, rolling over some or all of your 401(k) may be the best option available. If so, make sure you understand what expenses you can expect and how distributions will affect your retirement income.
How to avoid an early withdrawal penalty
You can avoid the 401(k) early withdrawal penalty by waiting until you’re 59 ½ to take distributions from your plan.
The IRS also lists several situations in which you may be exempt from the 10% tax, such as taking an early distribution due to a qualified deficiency or deducting too much of a contribution.
Be sure to check the list of exemptions to see if your state qualifies. Another way to avoid the 10% early withdrawal tax is to take a loan against your 401(k). Your loan amount will not be taxed as a distribution if:
- Borrow 50% or less of your fixed balance – up to $50,000.
- The loan will be repaid over five years (unless you use it to buy a house).
- Your fees are on par.
- Payments are made for at least four years for the duration of the loan. While 401(k) loans can be a good alternative, not all plan providers offer them, so you should check to see if this is an option for you.
401(k) Withdrawal Alternatives
How do you access cash without withdrawing or borrowing from your 401(k)? If you’re a homeowner with equity, you may want to consider a cash-out refinance, home equity loan, or home equity line of credit (HELOC).
All three of these options typically come with competitive interest rates because the financing is secured on your home.
Another option is permanent life insurance policies with cash components. In this case, your death benefit serves as collateral for the loan. Once the loan balance is paid, the death benefit will be returned to you in full.
Also nothing? You can also look into personal loans from many different online lenders. The better your credit and income, the more competitive offers you can get.
Reference Source: CBS News
