Do You Know Some of the 10% Penalty Exceptions?


If you are an educated retirement saver, then you are probably well aware of the 10% penalty you can get hit with if you take a withdrawal from your IRA or employer retirement plan before age 59 1/2. For many Americans–particularly those hit hard financially over the past 8 months–it can be tempting to take that early withdrawal to stay afloat. However, you’re a smart saver and you’ve most likely put yourself in a situation where you don’t need to hit your nest egg. That said, though, you should be aware of the exceptions to the 10% penalty. Now, I’ve mentioned these exceptions in the past, but I feel the need to mention them again as it’s been a while. There are a few exceptions, though, when you can take that early withdrawal and not have to worry about the 10% penalty. Buying your first home? Take that early withdrawal with no penalty. Want to help out a child with college tuition? Take that penalty free withdrawal. Lose your job and need help affording health insurance? Again, take the withdrawal and not worry about the penalty. These tend to be commonly used exceptions to the 10% early withdrawal penalty. Now, before you go taking huge early withdrawals from your retirement savings accounts, make sure it’s the right decision above all else. If you can get the funds you need from other places (ideally, an emergency savings account) that may be the wiser route to go. Remember, your retirement savings accounts should be an absolute last resort when it comes to taking early withdrawals. You should also meet with a certified financial planner or wealth manager to make sure you are making the best decision for you and your future and to ensure you take the proper steps when taking that early withdrawal.

More Retirement Legislation Could Be Around the Corner

I’ve written about the SECURE Act a number of times over the past 11 months or so since it was signed into law. As you may well know, that legislation brought about some big changes, including raising the age for required minimum distributions (RMDs) up to age 72, allowed traditional IRA contributions past age 70 1/2, and eliminating the stretch IRA. Now, there could be even more changes coming to the retirement planning world in America. Recent bipartisan legislation introduced last week, and referred to as Secure Act 2, could take some of the parts of the original Secure Act even farther. Some of the key points of the legislation are the expansion of automatic enrollment to include 401(k), 403(b), and SIMPLE plans, raising of the RMD age to 75, increasing catch-up limits, and matching employer contributions for employees making student loan payments. That last part is interesting as it would potentially allow employers to make matching contributions under a 401(k), 403(b), or SIMPLE IRA for employees making “qualified student loan payments.” The legislation also includes a number of other somewhat minor changes to retirement plans and planning. While it’s still in the early stages, this legislation could have a major impact regarding how people save and when they start spending their nest egg. Obviously, things still have way to go, but I wanted to make you aware of potential changes that could be coming down the pike. It’s worth at least keeping an eye on.

To Tap or Not to Tap Your Retirement Savings?

It’s tough times out there for many Americans. We’re seeing record numbers of people filing for unemployment. For those who have lost jobs, it can be scary to think about where the finances will come from to continue paying things such as rent, mortgages, grocery bills, etc. Thus, during these times, it can be tempting to tap into retirement savings, especially if you have managed to build up a decent-sized nest egg. While I strongly, strongly discourage you from using your retirement savings to get you through these tough times, I realize that it may really be the only option for some. If you find that you absolutely are certain you will need to take some money out of your nest egg to get you through a jobless period, there are some new provisions in the CARES Act recently passed by Congress that can help you. First off, Congress has increased the amount you can take out of your employer-sponsored 401(k), if you have one. The limit used to be $50,000, but they have temporarily expanded it to $100,000 and will allow you to suspend payments on repayment for up to one year. It also allows for the terms of the loan to be stretched from five to six years. Again, this is all temporary under the CARES Act. Another important provision of the recent legislation is that it allows you to take a distribution from other retirement accounts you have without having to worry about the 10% penalty if you are under 59-and-a-half. It should be noted that there is a limit to the size of the distribution and that is $100,000. Now, again, I am not encouraging you to hit up your retirement savings immediately when trying to get through a period of unemployment. Rather, I’m sharing these two important provisions with you so that you are aware of the possibilities to get through tough times. Of course, if you feel that you need to tap into your retirement savings, you should consult with a retirement professional or financial advisor to make sure it’s the right decision and that you understand what you are about to do.

Retirement Accounts and Government Coronavirus Relief

The Coronavirus Aid, Relief, and Economic Security Act (CARES Act) was signed into law on March 27. It’s a massive relief package designed to help Americans get through these difficult economic and financial times. Yes, this is the legislation that also includes the one-time payments from the government for those below a certain annual salary. While most of the reporting on the CARES Act tends to focus on helping those of working age who find themselves without a job, it does have some advantages for retirees. First off, many retirees will be eligible to receive the highlight of the legislation–those one-time government checks that everyone keeps talking about. The CARES Act does allow for those collecting Social Security and other benefits–such as Supplemental Security Income–are eligible to receive a check. Now, obviously, this won’t apply to everyone and some seniors will not qualify due to their individual situations. You will need to submit a tax return for the government to determine if you are eligible, even if you know you won’t owe any taxes. Another interesting aspect of the act is that it is waiving required minimum distributions (RMDs) for 2020. That goes for both employer plans and IRAs. That means you do not have to take an RMD for 2020, if you are eligible to do so. This unprecedented waiver means that money stays in your retirement account. The CARES Act also waives the 10% early distribution hit you may take if you take an early distribution of up to $100,000 from an IRA or other retirement plans to cover costs related to Coronavirus. I don’t know the specifics of this yet and you will want to do some research of what qualifies before trying to take advantage of this. Of course, I also discourage you from taking money out of your retirement savings any sooner than you have to. However, I understand that situations, such as a costly illness, may change those plans. You may want to talk with a certified financial planner or wealth manager to learn more about your options and whether you can hypothetically do an early distribution. There’s a lot in the CARES Act legislation and I encourage you to read more about it and learn as much as you can, regardless of whether you are retired, near retirement, or decades away as it has the potential to impact a wide array of Americans.

Are You an Active Participant in Your Employer’s Retirement Plan?

If you aren’t participating in your company’s retirement plan (i.e. a 401(k)), then you are really missing out. Not only is it a great way to save for retirement, there may be numerous perks and benefits that you may be giving up. For one, if your company offers contributing matching, you could be leaving extra money on the table. Even if the match is only a small amount–such as 3%–that’s still better than nothing and can go a long way over a long period. Being an active participant in an employer retirement plan can also potentially allow you to deduct a traditional IRA contribution from your taxes should you fall within the proper range. A deduction of a contribution on your taxes doesn’t have to do with your salary or Modified Adjusted Gross Income (MAGI). Furthermore, you don’t have to contribute a large amount to your retirement plan nor do you need to be a participant for a long period of time. So long as you make a contribution and are active for the required period each year, then you will be considered an “active participant” for tax purposes. Even if you don’t intend to use your employer retirement plan as your main source of retirement savings, it can still be a good idea to at least set up an account and contribute a little each year. If you have questions about your company’s retirement benefits, you should speak with the benefits manager or human resources contact where you work. So, are you an active participant?

Are You Vested?

If you have an employer sponsored retirement plan, then you’re probably familiar with the terms “vested” or “vesting.” These terms mean that the amount that falls into that category is yours and cannot be taken away. Many employer plans have vesting rules and eventually allows the money put into that retirement account to become vested. Complete vesting usually does not happen right away, but rather is gradual as most employer plans have some form of vesting schedule. Often times you have to work a certain number of years at one business or company to become fully vested. Other times, you may become partially vested after a certain number of years of service and then fully vested a few years later if you remain at the company. Each company is different, so it’s important that you understand the vesting schedule for your employer. If you don’t know the schedule, you may want to reach out to the benefits manager or human resources where you work. When it comes to vesting, that money is yours regardless of whether you stay at the company as well. For example, if you work at a company for 20 years and were fully vested for the final 15 years of your employment, you can take that money with you when you leave. You will also become “fully vested” in a company plan if you reach age 65, as that is considered to be the “normal retirement age.” It should be noted that IRAs are not subject to vesting as they are for individuals and you can therefore receive the full value of your IRA regardless of where you work. As I mentioned earlier in this post, if you have questions about vesting, you should speak with the benefits manager at your employer or with your employer plan custodian.

Small Business Owner? Don’t Forgo Retirement Saving

If you are a freelancer or small business owner, you probably have a lot to worry about when it comes to your work or business. You have expenses to track, work to do, clients to satisfy, and maybe an employee or two to oversee. With all that, it can be easy to forget about saving for retirement. Not only that, but you don’t have the reminders regarding opening a retirement account or automatic retirement account enrollment that are standards in larger business and corporations. Thus, it’s imperative that you take it upon yourself to think about and take the required steps to start saving for retirement. If you are freelancing as a semi-retirement gig or started your own business after putting in time in the corporate world, then you may already have an IRA or 401(k) where you have built up a nice nest egg. If you don’t, then go and open a traditional or Roth IRA (401(k)s are employer sponsored). There are other options too that are geared towards those that own their own small business. A SEP IRA is another great option for freelancers and the self-employed as eligibility is fairly wide-ranging and it offers a lot of flexibility regarding contributions. However, it should be noted that it has required minimum distributions (RMDs) just like that of a traditional IRA. Another option that can be enticing if you own a business with a few employees–or work for a small business–is a SIMPLE IRA. A SIMPLE IRA offers options for both employees and employers and requires employer matching, which is a win for employees. You could also consider just doing a traditional IRA or a Roth IRA, which are fairly common retirement saving options for many Americans. Regardless of what you decide to do, all that matters is that you are saving for retirement and are preparing for your future. If you need help deciding, you should talk with a financial advisor, particularly one who works with a lot of small business owners.