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Roth IRA Withdrawal

It is obviously important to be aware of the Roth IRA eligibility requirements, because all too often people seem to leap to assumptions are far as the reasonably open approach to these accounts is concerned. Many people have heard that age is no barrier, and that anyone of any age can open a Roth IRA account, and then coupled with the basic income caps assume that they must be eligible. So, to clear up any confusion, let's have a look at exactly what the Roth IRA Rules are as far as being eligible to open and maintain a Roth IRA account.

Although there are some exemptions, which we'll look at a little later, in almost every case any withdrawal from a Roth IRA which is made before the owner has reached the age of 59 and a half will incur some form of penalty, known more usually as simply an early withdrawal penalty. Typically, these early withdrawal penalties are 10% of the amount withdrawn, typically referred to as a distribution.

However, there is an important distinction that must be drawn with regard to the difference between an early withdrawal penalty of this nature and a penalty incurred through a withdrawal, or distribution, which is classified as non-qualified. In cases where a withdrawal or distribution is made from a Roth IRA which is not deemed to be qualified, then the full rate of income tax is imposed on the total distribution.

In cases where the withdrawal or distribution is qualified, then this rate of income tax is charged in addition to the 10% penalty fee. As you can readily see, a distribution which both qualifies and is made prior to the standard age can prove to be very costly indeed, and is not advised unless there really are no further options.

To clarify this further, let's imagine that you made a Roth IRA contribution some time ago of $5,000, and that your account now stands at $8,000. If you chose to close your account, and had not yet reached the required age, then this would be classed as a non-qualified distribution.

For this reason, you would need to pay income tax on the $3,000 which you have gained in interest and through investments during the course of your Roth IRA account being active. Because the distribution will have taken place prior to you reaching the age of 59 and a half then you will also be required to pay 10% on those earnings as a result of the early withdrawal.

What does this mean in real figures? Let's assume that you're in the 28% tax bracket, this means that you'll need to pay 28% tax on the $3,000, which is $840, plus an additional $300 as a result of the 10% penalty fee. So in order to withdraw your accrued $3,000 you would need to pay a total of $1,140 in penalties and taxes, which is a fairly significant chunk.

Clearly if your Roth IRA had an even bigger balance, and had accrued an even larger amount, then the distribution fees and penalties could become quite staggering. Although it's worth knowing that you can withdraw from a Roth IRA early, it's also important to understand the Roth IRA withdrawal penalties if you make an early withdrawal or closure, and do not fall into one of the categories known as exemptions.

Although the Roth IRA withdrawal penalties and taxes can appear quite high, there are several exemptions, and it's certainly worth being aware of what these are, since in all of these cases the early withdrawal penalty doesn't apply.

  • a) The IRA owner becomes disabled in a way considered to be serious. This is a limited definition, and full details of the disabilities allowed can be found in the IRS Code documentation.
  • b) If the owner dies, then the necessary closure and withdrawal of funds does not incur the penalty
  • c) If 'substantially equal periodic payments' have been made over the owner's life expectancy, the penalties are waived
  • d) If the distribution or withdrawal is used to pay for medical expenses which have not been reimbursed and do not exceed 7 and a half percent of the MAGI.
  • e) If the owner has been unemployed for more than twelve weeks, and has been receiving unemployment compensation in that time, then distributions can be made penalty free for the purpose of medical premiums.
  • f) A single penalty free distribution can be made for a first time home purchase, although this is limited to a maximum of $10,000 in any case.
  • g) Penalty free early distributions can be made to pay for qualified expenses in relation to higher education fees, applicable not only to the IRA owner but also certain family members
  • h) If the IRS places a levy against the Roth IRA, then any taxes due can be paid back using a penalty free early withdrawal.

  • All of these exemptions provide penalty free opportunities for a Roth IRA withdrawal, but don't forget that there's another issue which can either benefit you tremendously, or cost you an arm and a leg, and that's the matter of Roth IRA conversion. Whether converting to or from a Roth IRA, there are other issues besides penalty fees which you will need to consider.