Learn Factors to Consider Before Withdrawing Funds From Your Retirement Savings Account
Before you start withdrawing funds from your retirement savings account, there are several important factors to consider. Your retirement savings is meant to last you for the duration of your life after retirement. Unless you plan to return to work, you need to stretch the funds out over the estimated remaining years of your life. The healthier you are now, the more years you can expect to have and the longer you can expect to need these funds. You can play a huge role in making sure the funds can last by taking the following critical factors into account before you start making withdrawals. In many cases, you will be calculating how much in taxes and penalties you may owe for withdrawing funds from your retirement account versus other options to funding your life at the moment. To begin a diligent analysis of these factors as they apply to you, there is specific information you need to collect. Note the type or types of retirement plans you own, how much you intend to withdraw, your age when this distribution will be made, for what purposes the money will be used and your predicted tax bracket when withdrawn.
Learn About the Income Tax Impact
Before you withdraw any funds from your retirement savings account, you should be clear on how this action will affect your income tax burden. Retirement savings account distributions are considered ordinary income by the IRS. Therefore, they will be taxed according to your marginal tax rate. If you make a big enough withdrawal from your retirement savings account, it might even bump you up into a higher tax bracket for that period. You will want to be clear on what this tax rate is and how it will consequently adjust your income tax burden. To quickly estimate your tax liability at different rates, multiple your marginal tax rate by the amount you intend to withdraw. Add any possible penalty to reveal the federal tax you will owe on that withdrawal. It is also advisable to estimate your potential state tax burden on any retirement savings account withdrawals as well. Note that tax laws are always changing, so be sure to consult with your trusted tax professional to find out the exact tax implications of any retirement savings account withdrawal, whether it is completed early or not.
Find Out About Penalties
You may also owe penalties on retirement savings account withdrawals, depending on the type of account and your age at the time of the withdrawal. In general, if you withdraw funds from a retirement savings account prior to reaching 59 ½ years of age, early distribution penalties on those funds will probably apply. As of 2018, the early distribution penalty is 10 percent on most accounts, although you should check to make sure of the number at the time you plan to make the withdrawal. One exception to this figure is for SIMPLE IRA accounts because the early distribution penalty is 25 percent if you start making withdrawals within two years of opening the account. You may wish to avoid opening a SIMPLE IRA if you are already 57.5 years of age or older at the time. However, certain penalty exceptions do exist. You may withdraw funds early from retirement savings accounts to apply toward medical expenses or to purchase a home. First-time home buyers do not have to pay a penalty on early retirement savings account withdrawals, nor do unemployed individuals who apply the money toward purchasing health insurance. The funds can also be withdrawn early to use for exorbitant medical expenses or college tuition. There are fewer penalty exceptions available for early distributions from a 403(b) or 401(k) plan. If you are not more than 55 years of age and either retired or have otherwise left work, there are only two ways you can avoid early withdrawal penalties. You can use the funds either to pay for exorbitant medical costs or to help pay out a divorce settlement.
Learn About Loans
Certain retirement savings accounts let you borrow against your own retirement savings rather than withdrawing the funds directly. In this way, you can often avoid many, or all, taxes and penalties associated with such withdrawals. If you have a 403(b) or 401(k) plan with your employer, you may be able to take a loan against the plan. However, you cannot borrow money against an IRA. With this strategy, you can meet a sudden short-term expense and avoid financial hardship without exposing yourself to unnecessary extra costs.
What are alternative funding sources?
Instead of withdrawing or borrowing against your retirement savings account funds, consider other ways to meet your current financial obligations. You could find a different sort of loan at a lower interest rate from your local bank or credit union. You could take on a part-time or temporary job to earn the needed income. You could also devise or adjust your budget to allow for your existing available funds to stretch and meet your changing needs.