Withdrawals from different types of individual retirement accounts have different income tax consequences. Knowing the tax consequences of your distributions helps you to minimize your tax liability and to prepare for the taxes you will owe as a result of your IRA withdrawal.
Taxes on Traditional IRAs
When you make a withdrawal from your traditional IRA, the entire amount is usually taxable. The only exception to the tax on traditional IRAs is if you put money in the account without claiming the contribution as a tax deduction, also known as a nondeductible contribution. In the event you did make nondeductible contributions, you must split your withdrawal between the tax-free nondeductible contributions and the taxable remainder of your account in proportion to the makeup of your account. For example, if you have 24 percent nondeductible contributions in your IRA, 24 percent of your distribution is tax-free.
When you take a qualified distribution from a Roth IRA -- one taken before age 59-1/2 and the account being five tax years old -- you do not have to pay any taxes on your IRA distribution. However, if you do not meet the qualifications, you have to pay taxes on the earnings withdrawn. Your contributions, which you get to remove first, come out without being taxed. Your earnings are added to your taxable income for the year.
Income Tax Rates
Any taxable distribution from your IRA counts as part of your gross income for the year, which means it is taxed at your marginal tax rate. The IRS does not impose a specific income tax rate for your IRA distributions. For example, if you fall in the 27 percent tax bracket, your IRA distribution will be taxed at 27 percent, unless the distribution bumps you up to the next tax bracket. In that case, the portion that extends into the higher tax bracket will be taxed at the higher rate.
Early Withdrawal Penalties
If you are under age 59-1/2, you must pay an extra 10 percent tax penalty on your IRA distribution on the taxable portion of the withdrawal. The tax penalty does not apply to nontaxable distributions. For example, if you withdraw only contributions from your Roth IRA, you owe no penalty. If you do have a taxable early distribution, only a few exceptions, such as a permanent disability or IRS levy, allow you to avoid this penalty.
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