Information About Taking Out a 401K Investment
If you participate in an employer-sponsored 401(k) retirement plan, several regulations exist governing how, when and in what manner your money can be withdrawn. Depending on the time and type of withdrawal, taking out your 401(k) investment may result in additional income tax liabilities and penalties. Understanding the various methods available for taking money out of your 401(k) reduces confusion and eliminates unanticipated results.
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Early Withdrawal Penalties
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Contributions into your 401(k) are formally earmarked for use during retirement, and in exchange for responsible financial planning, the IRS gives preferred tax treatment to those funds. Deposits qualify for income tax deductions, and any growth within the account remains untaxed until the year in which it is withdrawn. If you take out any of this money before reaching the age of 59-1/2, you will be charged a 10 percent penalty in addition to ordinary income taxes on the total amount withdrawn.
Borrowing Money
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If an emergency situation arises and you have no other means of obtaining necessary funds, you can avoid the 401(k) early withdrawal penalties by borrowing the money rather than withdrawing it. Nearly every 401(k) arrangement contains provisions allowing participants to take out a loan, but the amount available may differ from one plan to the next. Borrowing from your 401(k) may appear a convenient and easy way to get money, but removing funds can reduce the amount of interest earned on your investments, resulting in a smaller account value when you need it later.
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Hardship Withdrawals
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Most 401(k) plans have provisions that allow for immediate withdrawals when employees are faced with severe financial difficulties. The rules involving such hardship withdrawals are determined by each individual employer, and there are no formal government regulations or guidelines. Some employers honor hardship withdrawal requests for only a specific set of circumstances, and may also limit or otherwise restrict your ability to contribute to the account for a certain period of time after the withdrawal. Ordinary income taxes and early withdrawal penalties will still apply to money taken out for hardship situations.
Rollovers
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When you are no longer an employee of the company sponsoring your 401(k), you can roll over the money into an IRA. If done properly, the rollover will not generate any penalties or tax bills because an IRA is another qualified retirement account with the same rules and regulations pertaining to withdrawals. To take out your 401(k) investment and move it into an IRA, you must contact your previous employer’s human resources department and request the appropriate forms to initiate the rollover. Most transfers of this type take several weeks to complete, but once the money is in the IRA, you will have much greater freedom and flexibility regarding investment options and allocation decisions.
Required Minimum Distributions
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Once you reach age 70-1/2 and the entire balance within your 401(k) has grown without being taxed, the IRS requires that you withdraw at least a small portion of the money every year. The amount of your required minimum distribution (RMD) is recalculated every year and is based on your current age, life expectancy and account balance. RMD situations can become complicated due to the multiple configuration methods of the withdrawals.
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