Key Terms To Know First
- A distribution is any money paid out to you from a retirement account.
- Your marginal tax rate is the rate you pay on your top slice of income, also called your tax bracket.
- Withholding is tax your plan takes out of your payment up front and sends to the IRS and/or state for you.
- An early distribution is one you take before age 59½.
Withdrawals from a traditional retirement account are taxed as ordinary income at your marginal rate, while qualified Roth withdrawals are usually tax-free. Early Roth distributions can still face the 10% additional tax.
Retirement Early Withdrawal Calculator in Four Steps
- Find your federal marginal tax rate. Be sure to account for the anticipated amount of the withdrawal because large withdrawal amounts can push you into higher brackets.
- Add your state income tax rate, since your state may tax the withdrawal too. If your state has no income tax, skip this step.
- Add 10% if you’re under 59½ and no exception applies.
- Multiply your withdrawal by that total to get your estimated cost.
The 10% additional tax is charged on top of regular income tax.
Worked Example
Say you’re 40, in the 22% bracket with a 5% state income tax rate, and withdraw $10,000 from a traditional 401(k). The 5% rate is only an example, since state rules vary.
| Item | Rate | Amount |
|---|---|---|
| Withdrawal | N/A | $10,000 |
| Federal income tax | 22% | $2,200 |
| State income tax | 5% | $500 |
| Additional tax | 10% | $1,000 |
| Total estimated cost | 37% | $3,700 |
| What you keep | N/A | $6,300 |
Withholding vs. What You Actually Owe
Withholding is a prepayment toward your tax bill. What you actually owe is settled when you file.
Employer Plans Like 401(k)s
Employer plans generally must withhold 20% when they pay an eligible rollover distribution to you, even if you plan to roll it over. A direct rollover to another plan or IRA avoids this mandatory withholding rule.
In the example above, your plan withholds $2,000 for federal tax, so your check is $8,000. You’d still owe about $1,200 in federal tax when you file, plus any state tax not withheld.
IRAs
IRA withdrawals have a default 10% withholding, and you can choose any rate up to 100% on Form W-4R. Default withholding may be too low, so picking a higher rate can help you avoid a bill later.
Exceptions to the 10% Additional Tax
An exception removes the 10% additional tax. A traditional account withdrawal is still taxed as ordinary income. There’s no general hardship exception, so check the IRS exceptions list.
| Exception | Limit or condition |
|---|---|
| Death | Account owner’s death |
| Disability | Your disability |
| Birth or adoption | Up to $5,000 per child |
| First-time homebuyer | Up to $10,000, IRAs only |
| Leaving your job | In or after the year you turn 55 (50 for certain public safety employees), employer plans only |
| Emergency personal expense | One per calendar year, up to the lesser of $1,000 or your vested balance over $1,000 |
| Domestic abuse victim | Up to the lesser of $10,000 or 50% of the account |
| Disaster recovery | Up to $22,000 |
| Terminal illness | Terminally ill account owner |
| Substantially equal periodic payments | Series of equal payments over time |
| Unreimbursed medical expenses | Amount above a threshold based on your AGI (adjusted gross income) |
| IRS levy | IRS levy on the plan |
Some accounts follow different early withdrawal rules. SIMPLE IRA withdrawals in your first two years of participation face a 25% additional tax instead of 10%. Governmental 457(b) withdrawals are generally exempt from the 10% tax, except amounts from rollovers.
How To Report an Early Withdrawal
Your early withdrawal is reported to you on Form 1099-R. If box 7 of that form doesn’t show an exception, use Form 5329 to report the additional tax or claim your exception.
Sources
- IRS, Exceptions to Early Distributions
- IRS, Topic 557
- IRS, Topic 413
- IRS, IRA Distributions FAQs
- IRS, Form W-4R
- IRS, About Form 5329
