10% Penalty on IRA Distributions...

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  • PapaScout

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    21   0   0
    Jun 30, 2008
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    Live in Wilbur, Work in Indy
    I was out of work from January through August of last year and lived off of draws against my retirement funds instead of drawing unemployment - which wouldn't have covered me anyway.

    Now the IRS wants me to pay taxes on the money (I'm okay with and planned for this) that I drew out... PLUS 10% more as a penalty for using my retirement funds to live (NOT okay with the extra 10%).

    It's the law but makes no sense to me.
     

    10mmMarc

    Marksman
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    7   0   0
    Jan 16, 2015
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    Greenwood
    I can see paying taxes on the money you withdrew, since it was pre-tax contributions, but then they want a 10% penalty for you, using your own money ? thats ridiculous , you earned it, whats the 10% penalty for ? because you aren't at retirement age yet ?
    I think you are right, changing the govt. is the only answer.
    I support the idea of allowing us to invest the majority of our social insecurity contributions into a form of retirement plan we pick, that way when we pass away atleast our money becomes part of our estate , instead of the plan we have now, where it ceases to exist upon death.
     

    DoggyDaddy

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    73   0   1
    Aug 18, 2011
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    Some 401Ks (not sure about IRAs) allow you to borrow against the funds. You then basically pay yourself back, with interest. Again, that's specific to individual plans though, and typically you would need to be working and have an "active" 401K. I did this for a downpayment on our house.
     

    Beowulf

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    66   0   0
    Mar 21, 2012
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    Depends on the IRA.

    If the IRAs are post-tax, like the Roth IRA, you can file an IRS 8606 and deduct the amount you contributed initially from the distribution (since you already paid taxes on the post-tax contribution). So, if you fund a Roth IRA with $5,000 a year for 3 years, then on year 4, you take out $15,000, you don't pay any additional taxes or penalties.

    But, yes, it really sucks all around to have to take money out due to financial necessity, only to have the government stick it's grubby, greedy paws in your pockets for more money.
     

    PistolBob

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    4   0   0
    Oct 6, 2010
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    Midwest US
    401K <> IRA

    You get a 10% hit if you take money out of either type account before age 59 1/2. You can not borrow from a IRA, some 401K plan admins will allow you to borrow a portion of those funds in times of hardship or certain purchases.
     

    PistolBob

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    4   0   0
    Oct 6, 2010
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    Some 401Ks (not sure about IRAs) allow you to borrow against the funds. You then basically pay yourself back, with interest. Again, that's specific to individual plans though, and typically you would need to be working and have an "active" 401K. I did this for a downpayment on our house.


    Not all 401K programs permit this. Before you borrow a nickle it is wise to verify who gets the interest. In the plan we have, it is administered by a bank. So they will loan us up to 50% of our 401K balance, but the interest rate is prime and the bank gets the interest. So in our case, it is not a good idea to borrow from the 401K. Not to mention your loan payments, are all AFTER TAX. So you get no benefit, tax wise, off that money going in to your 401K.
     

    BigMatt

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    8   0   0
    Sep 22, 2009
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    Not all 401K programs permit this. Before you borrow a nickle it is wise to verify who gets the interest. In the plan we have, it is administered by a bank. So they will loan us up to 50% of our 401K balance, but the interest rate is prime and the bank gets the interest. So in our case, it is not a good idea to borrow from the 401K. Not to mention your loan payments, are all AFTER TAX. So you get no benefit, tax wise, off that money going in to your 401K.

    Ours was just the opposite. I borrowed against my 401k and I got the interest. I am not sure what the percentage I could borrow, but I think it was around 70%. I don't recommend doing this unless you are VERY stable in your place of employment because if you lose your job, you will be required to pay back the loan immediately.
     

    DoggyDaddy

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    Aug 18, 2011
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    Not all 401K programs permit this. Before you borrow a nickle it is wise to verify who gets the interest. In the plan we have, it is administered by a bank. So they will loan us up to 50% of our 401K balance, but the interest rate is prime and the bank gets the interest. So in our case, it is not a good idea to borrow from the 401K. Not to mention your loan payments, are all AFTER TAX. So you get no benefit, tax wise, off that money going in to your 401K.

    Agree. That's why I mentioned that the details are specific to each 401K. I was only describing the rules for the one I had at the time. If I remember correctly, I also could not contribute anything to mine while the loan was active, but the company portion of the contribution was still in effect.
     

    Leo

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    30   0   0
    Mar 3, 2011
    9,733
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    Lafayette, IN
    The government feels that everything you earn is theirs. In 2009 shortly before billy clintons flunky appointees to the Securities Excahnge commission were asleep at the switch, I wanted to pull out some money, but didn't, due to the early withdrawal penalty. Of course in March of 09, when it turned out that NASDAQ was propped up on smoke and mirrors, I lost 30% in a single day. I was lucky, I guess because NASDAQ lost 50% that day and some investors lost more than that. I should have paid the prepayment penalty.

    I do not know how to get out of the problem. Some people have suggested taking a 401k loan (paying interest to use your money). It is still a loss, but cheaper than taxes and penalty. I do not think there is anything you can do about it at this point. It sucks. Mark my words, the clinton administration propped up the economy by selling people on the idea of taking the equity out of their homes. All that is left to steal in peoples retirement savings. By the time it is over, the prepayment penalty will look like a bargain.
     
    Last edited:

    PistolBob

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    4   0   0
    Oct 6, 2010
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    Midwest US
    Ours was just the opposite. I borrowed against my 401k and I got the interest. I am not sure what the percentage I could borrow, but I think it was around 70%. I don't recommend doing this unless you are VERY stable in your place of employment because if you lose your job, you will be required to pay back the loan immediately.

    Yup...I think these borrowing rules must vary from plan to plan....regardless, the payback is all after tax and you do not get any deductible benefit from them.
     

    seedubs1

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    24   0   0
    Jan 17, 2013
    4,623
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    You should have known this going in. You get tax benefits by putting your money in 401k and IRA's. You get a penalty if you break the rules (take your money out early).
     

    BehindBlueI's

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    29   0   0
    Oct 3, 2012
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    I can see paying taxes on the money you withdrew, since it was pre-tax contributions, but then they want a 10% penalty for you, using your own money ? thats ridiculous , you earned it, whats the 10% penalty for ? because you aren't at retirement age yet ?
    I think you are right, changing the govt. is the only answer.
    I support the idea of allowing us to invest the majority of our social insecurity contributions into a form of retirement plan we pick, that way when we pass away atleast our money becomes part of our estate , instead of the plan we have now, where it ceases to exist upon death.

    Because the whole point of the program is to encourage and reward saving for retirement. The penalty is to keep it for that purpose, not just a tax deferred savings account.

    That's why you need emergency savings in non tax deferred accounts.
     

    Alpo

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    2   0   0
    Sep 23, 2014
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    Indy Metro Area
    On the other hand, if you've sheltered money tax free for a few years, you are likely to have earned untaxed interest during the period. While interest rates and earnings are lower compared with some earlier periods, I've always looked at the 10% penalty as a cost of deferring taxable income.

    I retired much earlier than normal and used my IRA when other income cycles didn't give me the money I needed to start new ventures. It worked for me. No one likes paying taxes, but a max 401k contribution is an income management tool. One among many.
     

    Whosyer

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    0   0   0
    Aug 5, 2009
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    Warren County
    If you leave your job during the calendar year that you turn 55, you can draw from a company initiated 401k, without the 10% penalty.
     

    JettaKnight

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    6   0   0
    Oct 13, 2010
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    Fort Wayne
    You said it yourself, PapaScout - it's a retirement fund. It's purpose is to encourage saving for retirement. You're using for another purpose, hence the penalty. I sympathize with you, as I see this when volunteering for tax returns, but you have to follow the rules.
     
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