By: Clay Wyatt
You've invested money into a Roth IRA plan. The tax man has already taken his share because Roth contributions are always done with after-tax funds. So, you're in the clear, right? Well, the answer is yes and no. You are in the clear - as long as you play by IRS IRA distribution rules. How can you avoid Roth IRA penalties?
The easiest way to avoid Roth IRA penalties is to be at least 59 ½ years old. And if you want to avoid income tax, the the initial contribution of funds must also have been in the plan for at least 5 years before you are completely out of the woods (called a qualified distribution). Unfortunately, you do not control your age, so this is either a hit or miss. However, there are plenty of other ways to get your funds without paying Roth IRA penalties.
At any time, you may withdraw funds that you contributed without paying Roth IRA penalties. This is because the contributions you made were not tax deductible and you've already paid taxes on them. As long as you do not touch your earnings (unless you're 59 ½ or older and have had the funds in the plan for at least 5 years), you can take up to the full amount of your contributions out.
If would like to purchase a home and could use some extra money towards a down payment, your Roth IRA is a penalty-free source of money as long as you keep the amount to $10,000 or less. This exemption will apply as long as you have not owned a home in the previous two years. Keep in mind that dipping into retirement funds should always be near or at the bottom of the list to pay any expense before retirement, as your retirement funds must last for the rest of your life.
Paying higher education or medical expenses are other ways to avoid Roth IRA penalties. If you, your spouse, your children, or your grandchildren have education expenses that cannot be paid by other means, you may withdraw your money without paying Roth IRA penalties. Also, if you have been unemployed for longer than 12 weeks, you may use Roth IRA funds to pay medical insurance premiums. Additionally, if you have medical expenses that are in excess of 7.5 percent of your adjusted gross income, Roth IRA funds can be used to pay for that excess without incurring Roth IRA penalties.
Of course, it is said that the only guarantees in life are death and taxes. Each of these plays into this equation as well. If you pass away, your estate will be exempt from paying Roth IRA penalties. While death is not something to look forward to, the IRS does not add insult to injury in this case. How nice of them! They are even nice enough to allow you to avoid Roth IRA penalties if you are subject to a levy on your qualified plan retirement assets (e.g. 401k) and use your Roth IRA funds to pay off the levy. Don't you feel special now?
Regardless of your situation, it is usually best to leave your Roth IRA plan in tact until you retire if at all possible. You will not have to worry if you are violating some obscure rule and will have more wealth to stretch through your retirement years. It is best to consult a retirement advisor if you are unsure about any Roth IRA penalties you may or may not face.
Lose a Fortune on Your 401k Rollover
If you do not do any of these correctly:
- Opt for a distribution rather than direct transfer
- Rollover company stock to an IRA
- Choose to rollover to a Roth IRA
- Rollover to your new employer’s 401k
- Rollover post-tax contributions