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Old 06-17-2013, 08:15 PM
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Roth IRA early withdrawal penalty?

Hi

I made an early withdrawal from my Roth IRA this year to meet some emergency expenses, but I do not qualify for an exception. So I'll have to pay 10% penalty on the amount I've withdrawn, which would be close to $1000.

However, I'm wondering if IRS will consider this $1000 as an underpayment for the year 2013, and charge me with additional penalties. In other words, if I owe more than $1000 in penalties and taxes, will there be a penalty for underpayment or should I pay estimated taxes? For example, if I owe $900 penalty for early withdrawal + $400 in taxes for 2013.

I would really appreciate your answers.

Thanks



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Old 06-18-2013, 03:34 AM
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Originally Posted by cincoh View Post
Hi

#1;I made an early withdrawal from my Roth IRA this year to meet some emergency expenses, but I do not qualify for an exception. So I'll have to pay 10% penalty on the amount I've withdrawn, which would be close to $1000.

#2:However, I'm wondering if IRS will consider this $1000 as an underpayment for the year 2013, and charge me with additional penalties. In other words, if I owe more than $1000 in penalties and taxes, will there be a penalty for underpayment or should I pay estimated taxes? For example, if I owe $900 penalty for early withdrawal + $400 in taxes for 2013.
#1:It depends; IN GENERAL, unless an exception applies( as you said this is not your case), most distributions from a R-IRA before the owner reaches age 59 1/2 will be subject to an early withdrawal penalty of 10% on the amount of the distribution. Please do not confuse the early withdrawal penalty with the taxes imposed on a non-qualified distribution. A non-qualified distribution imposes an ordinary income tax on the distribution, but the early withdrawal penalty will be imposed in addition to that tax. For example, say Tom, age 35, made a R- IRA contribution of $5K in 2011. In 2013, his R-IRA has a balance of $6.5K .He decides to close/withdraw his R-IRA in a non-qualified distribution that year. Since the distribution is non-qualified, Tom will owe taxes on his Roth earnings of $1.5K(no tax imposed on the non-deductible contribution of $5K), and will pay tax on this amount at his marginal tax rate. In addition, since the distribution took place before Tom reached age 59 1/2, and since Tom did not meet any of the exceptions, Tom will also be assessed a 10% early withdrawal penalty on the earnings. If we assume that Tom is in the 28% marginal tax bracket, he will pay $420 in tax on the earnings, and will pay a penalty in the amount of $150 on the early distribution. This is a very steep price to pay.



#2:As said, it depends. IN GEENRAL, unqualified IRA distributions are taxed as ordinary income, so the rate you'll pay depends on which tax bracket you fall in. In addition to the income taxes, you'll also owe an early withdrawal penalty on the taxable portion of the distribution unless an exception applies; First you withdraw your contributions tax-free, then, any earnings are taxable. For example, say you've made $20K in contributions and your R-IRA is worth $30K. If you take an early distribution of only $10K(up to $20K), it all comes out of contributions so you don't owe any taxes or penalties. However, a significant withdrawal exceeding $20K equals a significant increase in taxes and you may incur additional penalties if you do not account for this income by filing estimated tax payments. If your current estimated tax payments for this year will total 100 percent or more of your tax bill for last year, you qualify for the safe harbor provision and you do not have to make estimated payments or adjust your withholding. However, if your tax bill increases significantly due to your IRA withdrawal you may want to pay ahead so you don't have an excessively large bill next April. If you are nearing the end of the year, or already withholding the maximum, estimated payments can fill in the gap.If you are self-employed (even an EE who participates in an employer-sponsored 401k plan may also own a R-IRA too. She funds her R-IRA with after-tax dollars, and the earnings on her Roth account are tax-free; if an ER contributes to her R-IRA directly the ER must report it as income to you. Since it is income they must also report it to uncle sam as taxable income and the ER will have to pay payroll taxes on the contribution. )or choose to make estimated payments, you need to make a payment on the due date following your IRA withdrawal. You can write a check and mail it to the IRS with a voucher from the Form 1040ES packet, or you can arrange for electronic payments through the Electronic Federal Tax Payment System. Payments are due on April 15, July 15, Oct. 15 and Jan. 15. If you file your annual tax return and pay your taxes in full by January 31, you do not have to make the Jan. 15 payment. If you miss the deadlines by which quarterly payments must be made, you can avoid the penalty by using the withholding tax from your IRA to pay the amount.Under the IRA withholding rules, any amount withheld (regardless of the date of the withholding) is treated as if it was withheld throughout the year. Therefore, if you owe estimated taxes of $1k and you request to have $1k withheld for federal income tax from your IRA distribution in December, you will be treated as if you have met the quarterly payment requirements.

You can use IRS Form 1040ES to calculate your estimated tax bill for the current year. This form is an abbreviated version of your annual tax return that uses last year's tax information and your estimates for this year to calculate a quarterly tax payment. You can compare this calculation to your current withholding or estimated payments to determine how much more you will need to pay.



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Old 06-18-2013, 06:39 PM
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Thank you for the detail reply! I really appreciate that.

I believe I did not provide enough detail about my situation. I've only withdrawn part of my R-IRA contributions ($8500), but not the earnings portion, so I think I wouldn't have to pay any taxes. However, since I do not qualify for an early withdrawal, I believe I've have to pay the 10% penalty on the amount withdrawn. Am I right? If yes, do I have to pay this penalty in advance to avoid IRS underpayment penalty?

I'm afraid that the amount I would owe (regular income tax due for 2013 + the penalty for R-IRA withdrawal) will exceed $1000.

Thanks



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Old 06-19-2013, 02:35 AM
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Originally Posted by cincoh View Post
#1: I've only withdrawn part of my R-IRA contributions ($8500), but not the earnings portion, so I think I wouldn't have to pay any taxes. However, since I do not qualify for an early withdrawal, I believe I've have to pay the 10% penalty on the amount withdrawn. Am I right?


#2:If yes, do I have to pay this penalty in advance to avoid IRS underpayment penalty?


#1:As said previously, no;in general, taking money out of any retirement savings plan such as an IRA Account can result in a 10 percent tax penalty if distributions occur before age 59 1/2. The penalty is assessed by the IRS and is added to any income taxes owed on taxable distributions. However, a R-IRA is distinctive in that there is no up-front tax deduction. With a R-IRA, you make contributions with money you’ve already paid taxes on (after-tax) and your money may potentially grow tax-free, with tax-free withdrawals in retirement, provided that certain conditions are met. So, your contributions may be withdrawn from a R-IRA at any time. IRS "ordering rules" don't consider withdrawals to be earnings unless withdrawals exceed the total amount of contributions, $8.5K. You must be 59 ½ years old and the account must have been open for at least five calendar years before EARNINGS, NOT your contributions, may be withdrawn from a R-IRA. You may withdraw EARNINGS early without penalty if you become disabled or to pay for the purchase or repair of a first home (up to a lifetime limit of $10K).




#2:As mentioned above. As your withdrawals do not exceed the total amount of contributions, $8.5K, IRS ordering rules don't consider your withdrawals to be earnings.



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