About Avoiding 401k Penalties
If you find yourself suddenly needing quick cash, think about borrowing from your 401k. The interest you pay will be to yourself. If you withdraw the funds, remember that a withdrawal can bring penalties at tax time if you're under 59 1/2. In order to avoid these penalties you need to take the money out in the correct way.
Time Frame
Take the money out after 55 if you no longer work for the company. People that leave their job after 55 don't have to pay a penalty on the money they remove if they take it directly from the plan. You do have to pay taxes, however. If you roll the funds into a rollover IRA and then take the money, you have to pay a 10 percent penalty and the taxes until you reach 59 1/2. Consider taking just what you need to last you until the age of 59 1/2 and rolling the balance into an IRA.
Identification
List the reason for the withdrawal. 401k's allow you to withdraw cash for specific things like higher education costs, a primary home purchase, tax-deductible non-reimbursed medical expense or to prevent foreclosure of a home or eviction. These are hardship withdrawal possibilities.
Warning
Remember that the hardship withdrawal must be necessary. You need to be in a position where the money can't come from anywhere else like a loan from a bank or a loan from the plan. The money you take can't exceed your need. Take a hardship withdrawal only if you meet those conditions and you'll pay no penalty, but still pay tax on the money.
Prevention/Solution
Withdraw substantially equal periodic payments. If you take payments for the rest of your life, you don't have to pay a penalty. The plan administrator has a calculation that shows how much you should receive annually from your funds if you live to your life expectancy. If you start taking them, you have to take the longest payment period of the two, five years or until you reach 59 1/2.
Features
Select a nonhardship withdrawal. Disability is one reason you don't need to take a hardship withdrawal to avoid a penalty. Medical costs that are more than 7.5 percent of your AGI (adjusted gross income) is another way. Also, in addition to the 55 rule and the substantially equal periodic payments, take the funds without penalty if the court orders you to in a decree for a divorce or dependent.
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