Usually, you have to pay a 10% penalty tax — on top of the regular federal income tax you owe — if you withdraw money from a traditional IRA before age 59½. But this rule comes with a few key exceptions.
Here are four prime examples:
1. Take separate, but equal, payments
You’ll avoid the penalty if you take “substantially equal periodic payments” (SEPPs) based on your life expectancy or the joint life expectancies of you and a designated beneficiary.
The payments must last for at least five years or until you reach age 59½, whichever comes later. And you must receive at least one SEPP a year.
Note: You can use one of three methods for computing required payments under IRS life expectancy tables. Consult with your tax pro for the method that best fits your situation.
2. Heal financial woes through your IRA
If you’ve been hit with unexpected medical bills, you may not have all the cash you need.
IRA withdrawals to pay medical expenses are exempt from the 10% penalty to the extent that the cost qualifies for the medical-expense deduction (i.e., unreimbursed medical expenses above 7.5% of your adjusted gross income).
Similarly, if you’re laid off or fired from your job, any withdrawals before age 59½ may be exempt from the tax penalty if you use the funds to pay for health insurance.
3. Unlock a key tax break for homebuyers
The tax law includes a special tax break for first-time homebuyers. No penalty is imposed on withdrawals before age 59½ if you use the funds to buy or build a qualified home.
Strategy: Use the IRA funds to help your child buy a home. The homebuyer exception also applies to your offspring, so long as the home is your child’s primary residence and he or she hasn’t owned a home within two years.
One limitation: This exception comes with a lifetime dollar cap of $10,000.
4. Make the tax grade on education expenses
Do you need to raid your IRA to help pay for your children’s college expenses? If so, don’t worry about the 10% penalty tax.
Distributions made before age 59½ won’t trigger the penalty if you use the funds to pay for qualified education expenses. That includes tuition, books, supplies, etc. … even room and board if your child is a full-time student.
Furthermore, this tax break isn’t limited to your children. It’s also available for expenses paid on behalf of yourself, your spouse or any grandchildren. Unlike the first-time homebuyer’s exception, this provision carries no dollar cap.
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