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Tough tax rules on hardship withdrawals

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in Small Business Tax

Q. My 401(k) plan permits hardship withdrawals. Are these exempt from early withdrawal penalties? M.F., Naugatuck, Conn.

A. Not necessarily. Normally, a distribution from a 401(k) or other qualified retirement plan is subject to a 10% penalty tax if made before age 59½, in addition to regular income at ordinary income rates. Even if a plan permits hardship withdrawals, these rules continue to apply, unless you qualify under a handful of special exceptions.

For instance, no 10% penalty tax is imposed if you take out money under a qualified domestic relations order (QDRO) or you’re at least age 55 and separating from service.

Tip: A slightly different set of exceptions applies to early withdrawals from an IRA. The exceptions only exempt you from the 10% early withdrawal penalty tax; you will still owe the income tax hit.

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