Penalty-free IRA distributions could finance pre-retirement needs
By David Katzman
If you have accumulated money in your traditional Individual Retirement
Account (IRA), but are facing some immediate, unmet financial needs,
your IRA may hold a solution.
Generally, you will owe a 10 percent penalty on any withdrawals you
make before reaching 59 _ years of age. However, there are some exceptions,
which could help meet your pressing current needs. While you may avoid
the 10 percent penalty, if your IRA funds have been accumulated tax
deferred, you will owe federal taxes on any distributions.
Exceptions To Penalty
Essentially, there are four ways to take early withdrawals from your
IRA without incurring a penalty. These include a home purchase, educational
expenses, equal periodic payments and hardships. Each exception has
specific qualifying guidelines, but some categories are actually more
flexible than they appear. Here are the qualifying details for each
category:
• First-time homebuyers’ provision: You are allowed to
withdraw up to $10,000 to pay expenses associated with buying a “first”
home. However, a first-time buyer is defined as someone who has not
owned a home for two years, so this applies in many more situations
than it initially appears. Additionally, an IRA owner can use this
benefit for a spouse, children, grandchildren or some other relatives.
This allows you to take a penalty-free withdrawal to help a child
with a down payment, for example. Just remember that this exemption
has a lifetime limit of $10,000, so you’ll need to keep that
limit in mind if you plan to help more than one child.
• Qualified higher education expenses: This exemption allows
you to withdraw IRA funds to pay higher education expenses, such as
tuition, room and board, fees, and necessary supplies. An IRA owner
can take distributions to pay for personal higher education expenses,
for a spouse or for either spouse’s children or grandchildren.
The recipient does not need to be a dependent of the IRA owner, so
you can use this exemption to help grandchildren, for example, even
if their parents otherwise support them.
• Equal periodic payments: You can elect to begin taking penalty-free
IRA distributions before age 59 _, if you commit to an equal, periodic
distribution schedule. The frequency of the distributions must be
at least annually and the amount is based on life expectancy. However,
you are not actually forced to continue these distributions for your
lifetime. They must continue until you reach 59 _ or for five years,
whichever period is longest. After that period, you can modify the
distribution amount or discontinue the payments, until you reach age
70 _, the mandatory distribution age for traditional IRAs.
• Hardships or death: The final way to take an early, penalty-free
IRA distribution is to show a hardship need. However, the qualifying
hardships are very specific. In general, you may take distributions
to pay extensive medical expenses which are not reimbursed and that
are in excess of 7.5 percent of your adjusted gross income, to cover
medical insurance premiums while you are unemployed, or if you are
totally and permanently disabled. If you die, distribution of your
IRA assets to your beneficiaries is also penalty-free.
As you can see, there may be times when taking an early distribution
from your IRA makes sense. However, you may want to consult a tax
professional before you take any distribution.
David A. Katzman is a certified public accountant licensed to practice
in the State of Florida and the Commonwealth of Massachusetts. He
is also a certified financial planner and certified senior advisor.
Please consult your tax advisor for details and assistance in applying
this general information to your specific situation.
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