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Hardship withdrawals: The tax tribulations

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in Small Business Tax

Q. My husband, age 48, lost his job. If we take a hardship withdrawal from his 401(k), do we have to pay a penalty? M.L.D., Boise, Idaho

A. Probably. If a taxpayer takes a withdrawal from a 401(k) and he or she is under age 59½, the taxpayer must pay a 10% penalty tax in addition to regular income tax due on the withdrawal unless an exception to the 10% penalty tax applies. There’s no penalty tax exception for hardship withdrawals.

However, there is an exception for plan participants who have “separated from service” (i.e., quit, retired or fired) at age 55 or older and there are other exceptions, too (for example, if you’re disabled or you incur medical expenses in excess of 7.5% of your adjusted gross income).

Tip: The hardship withdrawal is taxed at ordinary income rates to the extent it represents pretax contributions and earnings.

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