Do I Have to Pay 10% on a Hardship Withdrawal?

Hardship withdrawals may add to the misery of filing your taxes.

Hardship withdrawals may add to the misery of filing your taxes.

When you're stuck between a rock and a hard place financially, taking money out of your retirement savings might appear to be your only option. Hardship withdrawals allow you to tap your retirement savings early because of an immediate and heavy financial need when you don't have any other funds.Unfortunately, even a hardship withdrawal isn't always exempt from the 10 percent tax penalty on early withdrawals.

No IRA Hardships

IRAs don't offer hardship withdrawals because you can take your money out whenever you want, even if it's just to get a new widescreen TV -- and those early withdrawals are hit with a 10 percent tax penalty unless you qualify for an exception, so don't go buying that big screen just yet. For a traditional IRA, early withdrawals are any that you take before 59 1/2. For Roth IRAs, it's any withdrawal before the account is five years old and before you turn 59 1/2, when you haven't suffered a permanent disability or aren't using up to $10,000 for your first house.

IRA Exceptions

When you take an early withdrawal, you get out of the 10 percent penalty if you qualify for an exception. These include permanent disability, qualified reservist distributions, an IRS levy on the account, higher education expenses, health insurance when you're out of work and up to $10,000 of first-time homebuyer costs. In addition, Roth IRAs let you take out your contributions tax-free and penalty-free at any time, so with or without a hardship, you can take those out and pay nothing.

SIMPLE IRA Penalties

If you're taking a distribution from a SIMPLE IRA within two years of opening it, you won't pay a 10 percent penalty -- you pay a 25 percent penalty. After the SIMPLE IRA has been open for two years, the penalty drops back to the standard 10 percent rate. Of course, the penalty exceptions still apply, so a hardship that's good enough to get you out of the 10 percent penalty also gets you out of the 25 percent penalty.

401(k)s, 403(b)s and 457s

Certain retirement plans, such as 401(k)s, 403(b)s and 457 plans, may allow so-called hardship distributions in certain circumstances. Unlike with IRAs, you're not allowed to take the money out of these plans before you're 59 1/2 unless you've left the company, are permanently disabled or have a hardship. But, just because your hardship qualifies you for an early withdrawal, it doesn't exempt you from the penalty. Some penalty exceptions that apply to IRAs also apply to these plans, including a permanent disability and qualified reservist distributions. Others are unique to these retirement plans, including distributions when you've left the company after turning 55 years old or distributions of earnings to correct excess contributions. For example, if you take out a $10,000 hardship withdrawal to avoid a foreclosure on your home, you'll have access to your money, but you'll still owe the 10 percent penalty.

 

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