He cited a case in which an accountant withdrew more than $30,000 from his 401(k) plan, after deciding to leave his firm to pursue a PhD. He used the money for his education and his first house.
Because withdrawals from individual retirement accounts are exempt from the 10 percent tax penalty if they’re used for education or a first house, the accountant assumed he would be in the clear. Then he received some bad news: 401(k) plans don’t make those exceptions.
He took his case to court, where he argued that the difference between an individual retirement account and a 401(k) are merely “a matter of form.” Still, he lost, and was stuck paying the penalty.
“It shows that even professionals can mess it up,” Slott said.
If the accountant had known the rules, he could have simply rolled his 401(k) into an individual retirement account, and then made his withdrawals without any penalties, Slott said.
In some cases, he added, it’ll be your 401(k) that’ll give you more freedom.
For instance, say you decide to retire at 56. You can withdraw from your 401(k) without any penalty, but if you roll it into an individual retirement account, you’d have to wait until 59½ to have your money without consequences.
Both 401(k) plans and individual requirements waive the penalty if you’re using the money for serious medical expenses, or if there’s a disability or death. You can use your individual retirement account to fund health insurance if you’re unemployed, without penalty; if you’re divorcing, you may be able to tap a 401(k) without consequence.
“See if one of these penalty exceptions can help you gain without the pain,” Slott said.
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