Rules for Withdrawing Retirement Funds

Depending on your age and the reason for withdrawing funds from your retirement plan account, there are a few rules and potential tax implications to consider. 

What if You Want to Withdraw from Your Retirement Plan Before Reaching Retirement Age?

If you withdraw money from a 401(k) or 403(b) plan before you reach the plan's average retirement age or before turning age 59 ½, you will pay an additional 10%  tax of the distribution amount as a penalty, and you may also owe both federal and state income tax.

Can I Avoid the Penalty on Distributions?

Several types of distributions may allow you to avoid paying a 10% penalty on the distribution, but you will still owe federal and state income tax on the withdrawal amount.

  • 401(k) plan hardship withdrawals: The Internal Revenue Service permits withdrawals from a retirement plan when facing an immediate and significant financial hardship and only to cover certain defined expenses. A hardship withdrawal may be taken to cover certain medical expenses incurred by the participant, the participant’s spouse, dependents, or beneficiaries.
  • A home purchase that will serve as a primary residence...
  • Costs to prevent eviction or foreclosure on a primary residence.
  • Funeral expenses for the participant or the participant’s spouse, dependents, or beneficiaries.
  • Tuition or related expenses for the next year of postsecondary education for the participant, the participant's spouse, dependents, or beneficiaries.
  • Expenses to repair damage to the participant’s primary residence.

A hardship withdrawal must be a permitted feature of your plan and you will need to provide the plan administrator with various supporting documentation.

You may also be entitled to take a distribution from your retirement plan before reaching retirement age without having to pay a tax penalty if you have a disability or for certain expenses relating to the birth or adoption of a child. In both instances, there are certain procedures and rules that your plan administrator may require before receiving payment. 

What if You Need to Access Funds From Your Retirement Plan, but Do Not Satisfy Any of the Conditions Needed for a Hardship Withdrawal or Other In-Service Withdrawals?

If your plan permits, you can request a loan from your retirement plan. You will still pay interest on the loan repayment, but the loan is not taxable (unless you default on repayment) and the request for a loan does not appear in your credit report. Your employer determines the terms of the loan, but in general the maximum loan amount permitted is the lesser of $50,000 or half of your  vested account balance. 

While the loan remains outstanding, you repay principle and interest from your paycheck on an after-tax basis. Generally, the maximum term to fully repay the loan is five years. 

When Am I required to Start Taking Withdrawals From My Retirement Plan?

When you turn age 72, you are required to start taking a Required Minimum Distribution (“RMD”) from your plan; unless you are still working, you own a certain percentage of your business, or in some other limited circumstances. You must take your first required minimum distribution by April 1 of the year you reach 72 years of age and then by December 31 each year thereafter. Once you start taking required minimum distributions, your withdrawals will be taxed as ordinary income.

You can learn more about Required Minimum Distributions by clicking here.