Whats the penalty for early withdrawal of 401k

The 10% penalty on early withdrawals can be a major financial burden, especially on top of the income taxes you have to pay. But there are a few ways to take money from your 401(k) before age 59½ and still avoid the 10% penalty. They are:

Hardship withdrawals

The federal government allows you to withdraw money from your 401(k) plan early if you can demonstrate an immediate and heavy need. Situations in which a hardship withdrawal may be allowed include:

• Expenses for medical care for the employee, their spouse or their dependents

• The purchase of a principal residence, not including mortgage payments

• Payment of tuition and other higher education expenses

• Eviction or foreclosure from the employee’s primary residence

• Funeral expenses

• Expenses to repair damage to a principal residence if they would qualify for the casualty deduction[2]

If you can demonstrate an immediate and heavy need, you can then only withdraw enough money to fulfill that need. For example, if you need $5,000 to pay back rent, interest and fees to avoid eviction, then you can only withdraw up to $5,000.

Substantially equal periodic payments (SEPP)

The IRS allows you to withdraw funds from your 401(k) plan before age 59½ if you take a series of substantially equal periodic payments over your entire life expectancy. To use this exception, you must actually intend to keep withdrawing those equal payments. If you modify them before age 59½ (or after five years if you’ve already passed that age), then you’ll have to pay the 10% penalty on the entire amount you’ve withdrawn.[4]

Rule of 55

Under the Rule of 55, you can begin taking early 401(k) distributions without a penalty if you leave your job at age 55 or older.[2] This rule applies regardless of whether you were fired, laid off or quit your job.

Tip

The Rule of 55 only applies to your 401(k) plan with your current employer. It doesn’t apply to 401(k) plans with previous employers. If you’re going to be taking advantage of the Rule of 55, consider rolling all of your previous 401(k) accounts into your current plan so they’re also eligible.

What Is the 401(k) Withdrawal Age?

What Is the 401(k) Withdrawal Age?

To avoid higher tax rates and significant penalties, make sure you know what age you must reach before you withdraw from your 401(k) plan.

Find out more

401(k) loans

Many 401(k) plans allow you to take loans from your account, which you’ll have to pay back with interest over time. As long as you pay the loan back, you won’t pay income taxes or the 10% penalty.

There are a few requirements a 401(k) loan has to meet to help you avoid taxes and penalties:

• It can’t exceed 50% of your vested account balance

• It can’t exceed $50,000

• It must be repaid within five years unless you use it to buy your main home

• It must be repaid in substantially level payments at least quarterly[2]

There are a few more things to keep in mind before you consider taking a 401(k) loan. First, if you fail to repay the loan on time, the amount left unpaid is considered a distribution and is subject to taxes and penalties. Additionally, if you leave your job while you have an outstanding loan—whether you quit or are fired—you may have to repay the full loan amount immediately.[5]

IRA rollovers

Another way to avoid the 401(k) early distribution penalty is to roll that money over into a traditional IRA, or individual retirement account, instead of just withdrawing it from your retirement account. The money will still be tied up in a retirement account and can be subject to a 10% penalty if you withdraw it early. However, you can take advantage of additional early withdrawal exceptions. These include:

• Death or disability

• Qualified higher education expenses

• Qualified first-time home purchase

• Unreimbursed medical expenses

• Health insurance premiums while unemployed

• Distributions to military reservists[6]

If you decide to roll your 401(k) contributions over to a Roth IRA, it’s even easier to withdraw funds without a penalty. In the case of a Roth IRA, you can withdraw your contributions—though not your earnings—without penalty five years after the conversion.

It’s also important to note that 401(k) rollovers can’t be done at any time. Instead, there has to be a qualifying event. For example, “if you have the opportunity to roll money from your 401(k) to your IRA, you have typically either quit, retired or been fired from your job,” says McCarty.

How much penalty do I pay for early 401k withdrawal?

What reasons can you withdraw from 401k without penalty?

Is the 10 early withdrawal penalty waived for 2022?

What are the exceptions to the 10% penalty for early withdrawal?