Dipping into an IRA without Paying a Penalty


Typically, withdrawing from a traditional IRA before you reach 59 ½ will earn you a 10% penalty fee, and for good reason—that money is tucked away for retirement, and anything you withdraw loses its ability to make investment gains before you reach a ripe age. In some ways the IRS penalty policy on early withdrawals is meant as a slap on the wrist to steer you from temptation that may jeopardize your financial future.

But life is often unpredictable, and sometimes you need to tap your non-Roth IRA early. Luckily, there are a number of exceptions to the 10% penalty rule.

Many life emergencies allow for an exception:

* If you become permanently disabled and are unable to do substantial gainful activity, you can tap your IRA with no worries about fees.

* High medical bills can be paid with IRA withdrawals if the expenses are not reimbursed by insurance and add up to more than 10% of your Adjusted Gross Income.

* The financial hardship caused by unemployment can be offset by IRA withdrawals, as long as you have been on government unemployment pay for at least 12 consecutive weeks.

Some exceptions to the IRA penalty rule don’t require emergencies, but allow for assistance with major life events. You can also use your IRA to pay for:

* Education expenses, including tuition and costs for yourself, your spouse, children, or grandchildren.

* The purchase of your first home, as long as the withdrawal does not exceed $10,000. You can also use this to pay for the first home for your children or grandchildren.

If you don’t qualify for any of these specific exceptions, there is another way to withdraw penalty-free: making annuity payments to yourself until you reach 59 ½ (or for five years, whichever is longer). This is a complicated route because it requires that you calculate an appropriate annual withdrawal amount and stick to it each year. If you calculate the wrong number, take too much or not enough, that 10% penalty gets slapped on each payment. Under no circumstances should you try to calculate the appropriate amount yourself; even the IRS says to consult a financial advisor for help.

Plus once you begin payments there’s no stopping them—even if you satisfy your financial need, you’re still required to keep making those annual withdrawals until you hit that magic age. So before making a decision, think deeply about whether or not your traditional IRA is the right reserve to help you meet your financial needs right now.

If you’re interested in learning more about how you might be able to make your IRA work for you now, give us a call.