Thinking about taking an early distribution from your 401(k), IRA, or other retirement plan? Typically, you’d face a costly 10% additional tax. However, thanks to the SECURE 2.0 Act, there are new exceptions that can help you avoid this penalty in difficult situations.
On June 20, 2024, the IRS released Notice 2024-55, providing crucial details on two new penalty-free withdrawals: one for personal emergencies and another for victims of domestic abuse. Here’s what you need to know.
What is the 10% Early Withdrawal Tax?
Under Internal Revenue Code (IRC) Section 72(t), any distribution from a qualified retirement plan before you reach age 59½ is generally subject to your regular income tax plus a 10% additional tax. This rule applies to plans like:
- 401(k) and 401(a) plans
- 403(a) and 403(b) annuity plans
- Traditional and Roth IRAs
While exceptions for things like disability or death have existed, the SECURE 2.0 Act has now expanded this list to provide more financial flexibility during crises.
New Exception 1: Emergency Personal Expense Distributions
If you’re facing an unforeseeable or immediate financial need, you may be eligible for a penalty-free withdrawal.
Who Qualifies and How Much Can You Take?
- What it’s for: Unforeseeable or immediate financial needs relating to personal or family emergency expenses.
- Maximum Amount: You can withdraw up to $1,000 once per calendar year.
- Self-Certification: You can self-certify that you meet the requirements, and a plan administrator is permitted to rely on your written certification.
Repaying an Emergency Distribution
A key feature of this new rule is the ability to repay the distribution.
- Repayment Window: You have three years to repay the amount to the retirement plan.
- Future Withdrawals: You cannot take another emergency distribution for three years unless you have fully repaid the previous one or have made new contributions equal to or greater than the amount you withdrew.
New Exception 2: Distributions for Domestic Abuse Victims
This provision allows survivors of domestic abuse to access their retirement funds without the 10% penalty.
Who Qualifies and What are the Limits?
- Eligibility: You must be a victim of domestic abuse by a spouse or domestic partner. The withdrawal must be made within one year of the date the abuse occurred.
- Maximum Amount: You can withdraw the lesser of $10,000 (this amount will be indexed for inflation) or 50% of your vested account balance.
- Self-Certification: Similar to emergency distributions, you can certify your eligibility to the plan administrator.
Repaying a Domestic Abuse Distribution
You also have the option to repay this type of distribution.
- Repayment Window: You can repay all or part of the distribution within a three-year period.
- Tax Refund: If you repay the amount, you can file for a refund of the income taxes you paid on the original distribution.
Important: What if My Employer’s Plan Doesn’t Allow These Withdrawals?
The IRS guidance makes it clear that employers are not required to add these new distribution options to their plans. However, even if your 401(k) or other plan doesn’t specifically permit them, you can still benefit.
If you take a regular early distribution that meets the criteria for an emergency or domestic abuse withdrawal, you can still claim the exception from the 10% additional tax when you file your federal tax return.
