Withdrawing money early from your 401(k), your IRA or some other type of retirement fund is something that may be necessary for a wide range of reasons. Maybe you're dealing with unexpected medical bills and could use a bit of financial assistance. Perhaps you've gone through some type of life-changing event like a divorce.
Regardless — it happens, and it's totally understandable. It is not, however, a decision that should be made lightly. If you want to withdraw funds from your 401(k) or IRA and avoid the often hefty penalties that follow, you'll need to keep a few key things in mind.
Avoiding Penalties on Retirement Accounts: What You Need to Know
All told, there are actually a number of different ways that you can qualify for a penalty exemption on withdrawals from these types of retirement accounts — provided that you're using that money for very specific purposes. Currently, these include but are not limited to things like:
Provided that your employer allows it, you can also take out what is called a 401(k) loan. This is exactly what it sounds like - you're borrowing against your 401(k) up to $50,000 or half of your account balance, whichever is less. The best part about this method, in particular, is that it usually doesn't even require a credit check, so you won't have to deal with a "hard pull" that temporarily hurts your credit score.
Generally speaking, the maximum loan term is up to five years. In certain circumstances, however, this can go up to 15 years. Not all employer plans actually allow this, however, so you'll want to talk with your company's human resources department to make sure this is actually an option that is on the table for your particular circumstances.
One of the most important things to understand about all of this, however, is the idea that "penalty free" and "tax free" are two totally separate things. Regardless of whether or not you qualify for a penalty exemption, you will still need to pay taxes on the money that you withdraw at ordinary income rates. The only major exception to this is in the case of a Roth IRA, which you can take money out of penalty free AND tax free after five years. You may be able to enjoy the same benefit on a Roth 401(k), but only if your employer plan specifically permits this.
Regardless, as you can see, avoiding penalties on these types of funds is not necessarily as difficult as you probably thought it was going to be. Provided you go about things in the right way, you'll have fast access to the funds you need when you need them the most.