Generally, 401(k) withdrawals before age 59 1/2 are subject to a 10% penalty. This is in addition to the income tax due on the amount withdrawn. However, there are exceptions that allow for penalty-free 401k withdrawals.
A similar article addressed withdrawals from traditional IRAs.
As it explained, if you are subject to the 10% penalty, approximately 40% of the money withdrawn will go to the government. This assumes 22-24% in federal income taxes, 8-10% in California income taxes plus the 10% penalty. Your particular taxation will of course depend on your tax bracket.
A better option may be to borrow from your 401k.
Penalty-free 401k Withdrawals
1. The SECURE 2.0 Act allows for one penalty-free $1,000 emergency withdrawal per year, if the plan allows. However, you may not be able to take further emergency withdrawals unless you repay the money.
2. Hardship Withdrawals. These are allowed in situations defined by the IRS as “immediate and heavy financial needs.” Qualifying expenses may include medical expenses, costs to purchase a home, tuition, preventing eviction or foreclosure, and burial expenses.
3. The “rule of 55.” If you leave your job during or after the year you turn 55, you can make penalty-free withdrawals from that employer’s 401(k). This rule does not apply to rollovers from a 401k into an IRA.
4. If you become permanently disabled, you can withdraw funds without penalty. The same applies if you receive a terminal illness diagnosis.
5. Beneficiaries can withdraw funds from a deceased individual’s 401(k) without penalty.
6. Substantially Equal Periodic Payments (SEPP). This involves a series of withdrawals over time, but they must follow specific IRS rules. To qualify, withdrawals must be made in a series of “substantially equal” payments. These must be calculated using one of the IRS-approved methods. These penalty-free 401k withdrawals must continue for at least five years or until you are 59½, whichever is longer.
7. Victims of domestic abuse can withdraw up to $10,000 or 50% of their account balance, whichever is less, without penalty.
8. You can withdraw up to $5,000 per child for qualified birth or adoption expenses.
