With the uncertain future that many people are facing financially, there are more people that are thinking about the money that they’ve been saving for retirement in their 401K accounts. In most situations, tapping into this fund is not a very wise idea because of the fact that you face harsh penalties for withdrawing these retirement funds before the age of 59 and 1/2. However, there are some exceptions allowed for withdrawing money when you face certain hardships in your life so that you will be able to overcome these circumstances without drowning in debt.
A hardship withdrawal from your 401K is not a loan, but actually taking funds out of the account that you have set aside for retirement. This means that when you take an early withdrawal from your 401K, you are not only reducing the amount of money that you will have for retirement, you will also face penalties from the IRS in the amount of 10% of your withdrawal in addition to regular income tax on this money.
These are the reasons that a hardship withdrawal is allowed from your 401K account based on special provisions that the congress has made:
* Out-of-pocket medical expenses for self, spouse or dependents.
* Purchase of the home that you (the employee) will be living in.
* Payment of mortgage to help prevent foreclosure or eviction.
* Educational expenses for self, spouse, dependents, or children who are no longer considered dependents.
* Funeral expenses that the employee is expected to pay.
* Certain repairs needed to home due to damages.
When you qualify for one of these needs, there are two different ways that employers are able to grant you this withdrawal. The first method of being able to make a hardship withdrawal from your 401K is to show proof of need to your employer. When this is done to make an early withdrawal from your 401K, you are able to continue making contributions to your 401K with the following paycheck. However, most employers don’t want to get that involved with their employee’s personal life so they will use the second option. The second option for an early withdrawal from a 401K is a self-certification method. When this option is used, you are not allowed to contribute to your 401K for six months following the hardship withdrawal.
There are also very specific provisions that will allow for an early 401K withdrawal without the penalty. These reasons include:
* Complete disability.
* Medical expenses exceeding 7.5% of your adjusted gross income.
* Separation from your job at age 55 or later.
With these penalty-free reasons for early withdrawal from your 401K, you do not have to pay the 10% early withdrawal penalty, but you will have to pay ordinary income tax on the withdrawal.
When your family is struggling or you would like to make a major purchase, it is tempting to tap into your 401K to make this possible. However, making an early withdrawal from your 401k should be a last resort because of the fact that there are penalties that you will face by making an early withdrawal from the account. In addition, the money that you withdrawal from a 401K cannot be repaid, which means that you will have less money for retirement in the future.
Sources:
http://www.401khelpcenter.com/401k_education/hardship_withdrawal_article.html
http://www.a401kwithdrawalrules.com/early-401k-withdrawal.php/