What Are Some Issues With Making an Early Withdrawal on a 401k?


Quick Answer

Making an early withdrawal on a 401(k) comes with stiff penalties, including paying income tax on the amount withdrawn, early withdrawal penalties and the loss of compounded earnings on the amount withdrawn, explains CNN Money. However, 401(k)s allow qualified hardship withdrawals that waive some of the standard penalties.

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Full Answer

Individuals who are under the age of 59 1/2 face penalties, including a standard 10 percent penalty, and loss of compound interest when they make early withdrawals from 401(k)s, notes CNN Money. The IRS also considers early withdrawals taxable income, so 401(k) holders lose some of the tax-deferred income benefits. The 72(t) provision allows people to withdraw money early and avoid the 10 percent penalty, but the eligible amount is based on life expectancy, and these withdrawals are still taxed as income.

The government does allow individuals to withdraw funds from 401(k)s and qualified retirement accounts without penalty in the event of hardship, explains Bankrate. Qualified hardships include full disability before the age of 59 1/2 or unreimbursed medical expenses exceeding 10 percent of gross income. The government also allows early withdrawals for college education expenses and first-time home buyers. Individuals do qualify for a waiver of the 10 percent early withdrawal penalty for new home buyers and early disbursements for school-related expenses.

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