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The Basics of Early Retirement Plan Withdrawal

by Jeremy Holcombe

Many of us are struggling for cash flow, especially after what happened to the market in 2008. There is the option of withdrawing money from your retirement plan early (before the age of 59½).

Here are the basics when it comes to withdrawing money early from your retirement plan.  Remember there are tax implications, including the possibility of getting hit with a 10% early withdrawal penalty tax.

There is a way to avoid that tax. Withdrawals taken due to financial hardship will more than likely not be penalized. Also, these “financial hardships” are usually the only way to get money out of your retirement plan without leaving your job first.  Here is a bit more on penalty exceptions.

According to MarketWatch, in most cases, all or part of any withdrawal from a qualified retirement plan, such as a 401(k) plan, will be hit with income tax. The taxable portion depends on whether you have made any nondeductible contributions.

The more you made, the lower the taxable proportion. The terms of the plan may allow you to take an early withdrawal (before age 59½) in limited circumstances such as financial hardship. If so, the taxable portion of the early withdrawal will be socked with the 10% early withdrawal penalty tax, on top of the income tax hit, unless one of the penalty exceptions applies.

Another way to avoid this 10% penalty tax is if you qualify for “separation from service.”  If you quit, retire, or get laid off permanently for any reason, then you can draw this money without penalty. However, the big catch here is that you have to be at least 55.

If you are a qualified public safety employee who separates from service at age 50 or older, you can receive penalty-free early payments from a government-defined benefit plan.

There are several other ways to avoid this 10% penalty tax, including domestic situations and medical situations. Withdrawing money from you retirement account early is possible, and there are actually ways to do it that will allow for no penalty — so if this is an option you are considering, why not look into it further?

Article Sources: MarketWatch | IRS.gov

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