You can take money out of your retirement savings early. However, you should be careful because it can be costly, according to CNBC in “How to tap your retirement savings without getting hit with a stiff penalty—but only if you absolutely have to.”
Despite anything you have heard, you can take a series of equal payments from your IRA or a 401(k) account, without being subject to a 10% penalty—but only under certain circumstances.
Taking an early withdrawal from a qualified retirement account before age 59½ results in a hefty 10% penalty in most situations. You must also add the taxes you have to pay on the distribution itself. Yes, it’s your money but you agreed to keep it in the account under certain distribution limitations and the rules are not very flexible.
Except, when they are.
There are very specific sets of circumstances when the IRS will let you take the early withdrawal and not have to pay a 10% penalty. One of these is receiving a series of equal payments from your IRA or 401(k), known among tax advisors as a “72(t) distribution.”
However, be careful: just because you can do this, doesn’t mean you should do it.
There are rules (of course!). You have to commit to take at least one payment a year for five years or until you reach 59½, whichever is the longer period of time. After that period is over, you can change your payment amount or stop the withdrawals.
If your money is in a 401(k), the rules are a little different: you must separate from service during or after the year you turn 55, in order to start taking payments.
However, if you make changes to your payments or if you go into the account for an additional withdrawal, you’ll get slammed with that 10% penalty retroactively for payments received plus interest.
What if you roll a 401(k) into the IRA after these series of payments? Don’t do it. That is a big mistake that could cost you plenty.
The numerous ways you can make a mistake and end up with a costly bill in penalties and taxes makes this a no-no for practically every CPA.
Your alternatives: have an emergency fund or even take out a home equity line of credit. A 401(k) loan would be even better, as long as you know that you can pay it back.
Depending on the circumstances of your emergency, there may be some instances where the IRS may waive your 10% penalty. However, if you try, then it might be wise to seek professional help.
Reference: Financial Planning (Sep. 10, 2018) “How to tap your retirement savings without getting hit with a stiff penalty—but only if you absolutely have to”