Money Watch: Exceptions to early IRA withdrawal penalties
— -- Money Watch, a personal finance column that runs every Saturday, features a financial planner from the National Association of Personal Financial Advisorsanswering reader questions about saving, protecting and growing your money. To submit a question, e-mail USA TODAY personal finance reporter Christine Dugas at: cdugas@usatoday.com.
Q: I am 52 and permanently and totally disabled. I receive a military pension and Social Security disability, which are not subject to federal tax. I also have a rollover IRA with about $700,000. Can I withdraw from the IRA without a penalty and if so will it be subject to federal tax?
A: Tapping into an IRA before the account owner reaches age 59½ typically results in a 10% early-withdrawal penalty in addition to ordinary income taxes. The IRS imposes the penalty to encourage people not to dip into their savings before they reach retirement age.
There are exceptions to this rule, however.
One of several hardship withdrawals pertains to your situation: permanent disability. If you provide evidence to the IRS that you are totally and permanently disabled, the 10% penalty would be waived even though you are only 52.
You may still be required to pay federal and state income tax. But if you have little or no other taxable income, you should be in a low tax bracket, and thus the distributions should result in little or no tax liability.
Also, you can qualify for a medical expense deduction if your total medical costs exceed 7.5% of your adjusted gross income (AGI). That may further reduce your overall tax liability.
To claim the early penalty exception, you may be required to file IRS Form 5329 along with your income tax return. That is needed if your IRA custodian, usually a bank or mutual fund, has not filed the proper IRS paperwork about the penalty exemption (Form 1099-R with the amount being exempted). In order to be sure the appropriate forms are filed, consult with a tax professional.
To the extent possible, we'd recommend that you use your military pension and Social Security disability to pay off your current daily living expenses for as long as possible before tapping into your IRA. This way, you are able to take advantage of the IRA's tax-deferred growth and preserve your nest egg for the unforeseen future.
Stacy Bakri, NAPFA-registered financial adviser
The Family Firm, Bethesda, Md.
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