What Are the Exceptions to the IRA Early Withdrawal Penalty?

Individual retirement accounts (IRAs) are tax-advantaged savings vehicles designed to help Americans save money for retirement. While there are tax benefits associated with IRAs, withdrawing money before age 59 ½ can trigger income taxes and a 10% early withdrawal penalty. However, the IRS makes several exceptions to this rule. If you need to withdraw money from your IRA and you haven’t yet reached age 59 ½, you’ll need to meet one of several conditions, like buying your first home, suffering a permanent disability or needing the money to pay for education expenses.

Understanding the rules for withdrawing from an individual retirement account (IRA) is important for your retirement planning. But there are distinct rules that will apply depending on whether an IRA is a traditional account or Roth account.

Traditional IRAs are accounts funded with pre-tax contributions. In return for a tax deduction in the year in which a contribution is made, you’ll pay income taxes on the money when you withdraw it later on. However, taking distributions from a traditional IRA before age 59 ½ will mean paying income taxes on the money, as well as the 10% penalty.

Another critical age associated with traditional IRAs is 73 – when required minimum distributions (RMDs) take effect. RMDs are mandatory withdrawals that must be taken from pre-tax accounts like traditional IRAs and 401(k)s. Failing to take your correct RMD may trigger a 25% excise tax on the amount that isn’t withdrawn. This penalty will drop to 10% if the RMD is corrected within two years of the error.

While a traditional IRA is considered a pre-tax account, a Roth IRA is the opposite. These retirement accounts are funded with earned income that’s already been taxed. Since income taxes have already been paid, the money can then grow tax-free within the account for as long as you want because Roth IRAs aren’t subject to RMD rules.

Roth IRA withdrawals also follow different rules. You withdraw the money you contribute to a Roth IRA at any time without having to pay the 10% penalty. However, you’ll have to wait until age 59 ½ to take out any investment earnings that your contributions generate. Withdrawing earnings before age 59 ½ can trigger the early withdrawal penalty.

Meanwhile, Roth IRAs are subject to what’s called the five-year rule: You must wait five tax years from your first contribution before earnings can be withdrawn tax-free and penalty-free. This rule starts with the tax year of your initial Roth IRA contribution and affects the tax status of earnings withdrawals, emphasizing the need for strategic planning.