Here’s what HIVE AI had to say about “What are the penalties for withdrawing early from a 401(k) or IRA in 2025?”:
Early withdrawals from retirement accounts in 2025 will generally be subject to both income tax and additional penalties, with certain exceptions. Here’s a comprehensive breakdown of the penalties and tax implications:
10% Additional Tax on Early Withdrawals
Section 72(t)(1) imposes an additional tax on an early distribution from a qualified retirement plan equal to 10% of the portion of the amount that is includable in gross income. This 10% additional tax does not apply to distributions: (1) to an employee age 59-1/2 or older; (2) to a beneficiary (or the employee’s estate) on or after the employee’s death; (3) on account of the employee’s disability; (4) as part of a series of substantially equal periodic payments made for life; (5) to an employee after separation from service after attainment of age 55; (6) as dividends paid with respect to corporate stock. Dawson U.S. Tax Court Opinions: Thomas Wesley Alexander & Sylvia Alexander
Generally, under section 72, amounts distributed to the taxpayer from an IRA are includible in the taxpayer’s gross income, and those amounts are subject to a “10-Percent Additional Tax” if the taxpayer has not yet “attained age 59-1/2”. Dawson U.S. Tax Court Opinions: Raymond S. McGaugh
This 10% additional tax applies to both 401(k) plans and IRAs, and it’s assessed on top of any regular income tax you owe on the distribution.
Income Tax Consequences
In addition to the 10% penalty, early withdrawals are also subject to regular income tax:
As long as the account qualifies as an IRA, the taxpayer-investor is not liable for income tax on the gains, so that the undiminished investment account can earn maximum returns until the time comes for payout, when the taxpayer will finally owe income tax on those greater gains. Under section 408, the benefit of the traditional IRA is thus deferral of income tax liability on retirement investment gains. Dawson U.S. Tax Court Opinions: Raymond S. McGaugh
When you withdraw funds early, you lose this tax deferral benefit and must pay income tax on the distribution in the year you receive it.
Exceptions to the 10% Additional Tax
There are several exceptions to the 10% additional tax for early withdrawals:
- Age 59½ or older: Withdrawals made after you reach age 59½ are not subject to the 10% additional tax.
- Death: Distributions to your beneficiary or estate after your death.
- Disability: Distributions due to your disability.
- Substantially equal periodic payments: Distributions that are part of a series of substantially equal periodic payments made over your life expectancy.
- Separation from service after age 55: For 401(k) plans (but not IRAs), distributions made after you separate from service with your employer if you’re at least age 55 in the year you separate.
In general, the exceptions to the 10% additional income tax for early distributions from an IRA are the same as the exceptions listed above for early distributions from a plan. However, there are a few differences for payments from an IRA, including:
- The exception for payments made after you separate from service if you will be at least age 55 in the year of the separation (or age 50 for qualified public safety employees) does not apply.
- The exception for qualified domestic relations orders (QDROs) does not apply (although a special rule applies under which, as part of a divorce or separation agreement, a tax-free transfer may be made directly to an IRA of a spouse or former spouse).
- The exception for payments made at least annually in equal or close to equal amounts over a specified period applies without regard to whether you have had a separation from service.
- There are additional exceptions for (1) payments for qualified higher education expenses, (2) payments up to $10,000 used in a qualified first-time home purchase, and (3) payments for health insurance premiums after you have received unemployment compensation for 12 consecutive weeks (or would have been eligible to receive unemployment compensation but for self-employed status). Notice 2018–74
Purpose of Early Withdrawal Penalties
The statute’s penalties for early withdrawals were “designed to insure that retirement plans will not be used for other purposes.” These explanations are entirely rational. If taxpayers face no disincentive for withdrawing amounts from qualified retirement plans long before their retirement years and without suffering any disability, it is easy to imagine that such amounts might be “diverted to nonretirement uses,” thereby frustrating Congress’ objective of encouraging taxpayers to save for periods of their lives when they might not be able, or wish, to work. Dawson U.S. Tax Court Opinions: Sandra M. Conard Dawson U.S. Tax Court Opinions: Sandra M. Conard
Rollovers and the 60-Day Rule
You can avoid taxes and penalties if you roll over your distribution to another qualified retirement plan within 60 days:
An amount will not be treated as a taxable distribution from an IRA if it is a qualified rollover. A distribution is considered a qualified rollover contribution if the entire amount an individual receives is paid into a qualifying IRA or other eligible retirement plan within 60 days of the distribution. Dawson U.S. Tax Court Opinions: Raymond S. McGaugh
However, if you miss the 60-day window:
If you fail to establish that the amount you rolled over was transferred to a qualified pension account, which would be necessary to avoid the current taxability of the withdrawal, you would be subject to the early withdrawal penalty under Section 72(t) for the amount withdrawn. Dawson U.S. Tax Court Opinions: Kevin C. Bowden
Penalties for Excess Contributions
If you contribute more than the allowable amount to your retirement accounts, you may face additional penalties:
If any part of these contributions is an excess contribution for 2023, it is subject to a 6% excise tax. You won’t have to pay the 6% tax if any 2023 excess contribution was withdrawn by April 15, 2024 (including extensions), and if any 2024 excess contribution is withdrawn by April 15, 2025 (including extensions). IRS – Publication 590-A: Contributions to Individual Retirement Arrangements (IRAs)
Excess SEP contributions exceeding the yearly limitations may be withdrawn without penalty by the due date (plus extensions) for filing your tax return (normally April 15), but are includible in your gross income. Excess contributions left in your SEP-IRA after that time may have adverse tax consequences. Withdrawals of those contributions may be taxed as premature withdrawals. IRS – Publication 4333: SEP Retirement Plans for Small Businesses
Penalties for Missed Required Minimum Distributions (RMDs)
If you’re of RMD age and fail to take your required distributions:
If an account owner fails to withdraw the full amount of the RMD by the due date, the owner is subject to a 25% excise tax on the amount not withdrawn. The 25% excise tax rate is reduced to 10% if the error is corrected within two years. IRS Newsroom – IR-2024-309 – IRS urges many retirees to make required withdrawals from retirement plans by year-end deadline
If the amount distributed during the taxable year of the payee under any qualified retirement plan or any eligible deferred compensation plan (as defined in section 457(b)) is less than the minimum required distribution for such taxable year, there is hereby imposed a tax equal to 25 percent of the amount by which such minimum required distribution exceeds the actual amount distributed during the taxable year. The tax imposed by this section shall be paid by the payee. IRC § 4974(a)
Contribution Limits for 2025
For context, here are the contribution limits for 2025:
The annual contribution limit for employees who participate in 401(k), 403(b), governmental 457 plans, and the federal government’s Thrift Savings Plan is increased to $23,500, up from $23,000. The limit on annual contributions to an IRA remains $7,000. The IRA catch‑up contribution limit for individuals aged 50 and over was amended under the SECURE 2.0 Act of 2022 (SECURE 2.0) to include an annual cost‑of‑living adjustment but remains $1,000 for 2025. The catch-up contribution limit that generally applies for employees aged 50 and over who participate in most 401(k), 403(b), governmental 457 plans, and the federal government’s Thrift Savings Plan remains $7,500 for 2025. Therefore, participants in most 401(k), 403(b), governmental 457 plans and the federal government’s Thrift Savings Plan who are 50 and older generally can contribute up to $31,000 each year, starting in 2025. IRS Newsroom – IR-2024-285 – 401(k) limit increases to $23,500 for 2025, IRA limit remains $7,000
Under a change made in SECURE 2.0, a higher catch-up contribution limit applies for employees aged 60, 61, 62 and 63 who participate in these plans. For 2025, this higher catch-up contribution limit is $11,250 instead of $7,500. IRS Newsroom – IR-2024-285 – 401(k) limit increases to $23,500 for 2025, IRA limit remains $7,000
Special Considerations for 2025
For 2025, there are some special rules to be aware of:
The limitation under section 414(v)(2)(B)(i) for catch-up contributions to an applicable employer plan other than a plan described in section 401(k)(11) or section 408(p) that generally applies for individuals aged 50 or over remains $7,500. The limitation under section 414(v)(2)(E)(i) for catch-up contributions to an applicable employer plan other than a plan described in section 401(k)(11) or section 408(p) that applies for individuals who attain age 60, 61, 62, or 63 in 2025 is $11,250. Notice 2024-80
You can withdraw or use your traditional IRA assets at any time. However, a 10% additional tax generally applies if you withdraw or use IRA assets before you reach age 59 1/2. IRS – Publication 590-A: Contributions to Individual Retirement Arrangements (IRAs)
Penalties for Reporting Failures
There are also penalties for failing to properly report retirement account transactions:
The computations for the penalties are as follows: If the penalty is for failure to file a report, as described in IRC 6693(a) at the time and in the manner required, then the penalty is $50 for each failure to file. If the penalty is for failure to file Form 8606, nondeductible IRAs, as described in IRC 6693(b)(2), then the penalty is $50 for each failure to file. If the penalty is for overstating designated nondeductible contributions, as described in IRC 6693(b)(1), then the penalty is $100 for each overstatement. IRS IRM 20.1.8 Employee Plans and Exempt Organizations Miscellaneous Civil Penalties
Conclusion
Early withdrawals from 401(k)s and IRAs in 2025 will generally be subject to:
- Regular income tax on the amount withdrawn
- A 10% additional tax (penalty) on the taxable portion of the withdrawal if you’re under age 59½ and don’t qualify for an exception
- Potential loss of future tax-deferred growth
Before making an early withdrawal, consider alternatives such as loans from your 401(k) (if available), hardship withdrawals (which may still be subject to the 10% additional tax), or using one of the penalty exceptions if applicable to your situation.
If you must take an early withdrawal, be sure to set aside enough money to cover both the income tax and the 10% additional tax to avoid further penalties for underpayment of taxes.
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