The Internal Revenue Service (IRS), recognizing that too many people entered retirement with too few assets, ruled that individual retirement accounts (IRAs), can receive favorable tax treatment. Because the IRS' goal is to encourage taxpayers to save for retirement, the agency established a penalty tax for those who make a withdrawal prior to reaching age 59 1/2. As of the time of publication, the penalty is 10 percent of the amount of the early distribution. The penalty is in addition to your normal income tax on the funds. However, under certain conditions, the IRS will waive the penalty on the early withdrawal.
You may take an early distribution from a traditional IRA to build or purchase a first home for yourself or your spouse, or the parent, grandparent, grandchild or child of either spouse. The property must be the main home, and you must disburse the funds no later than 120 days after you receive them. The total of all withdrawals for purchasing a first home cannot exceed $10,000, or $20,000 if you are married and the home is for you and your spouse. The IRS definition of a "first-time homebuyer" does not mean that the individual has never owned a home. Rather, if you have not owned a main home, in full or in part, for at least two years prior, you may qualify.
If the owner of the IRA dies and you inherit the IRA, you may withdraw the funds without penalty. However, if the IRA belonged to your spouse and you choose to adopt it as your own, the penalty tax will apply to any early withdrawals you may take at a later date.
You may withdraw, penalty free, the amount of qualified educational expenses you pay for yourself, your spouse, your children or your grandchildren. The IRS definition of "children and grandchildren" includes your spouse's children and grandchildren. Qualified expenses include books, tuition and fees, equipment and, if the student attends on at least a half-time basis, room and board. The institution must a vocational school, university or college eligible for federal student aid participation.
If you are a reservist who was called to active duty for at least 180 consecutive days beginning any time after Sept. 11, 2001, you may take an early distribution without penalty. You cannot take the distribution before the date you were activated nor after your last day of active duty. (See Reference 1, Chapter 1 – "Early Distributions")
If you become disabled, you may withdraw your IRA funds without paying the penalty tax. You must be able to furnish proof from your doctor that you are unable to work at any gainful occupation and that your mental or physical condition will be indefinite, lengthy or likely to be terminal.
You may withdraw the amount of your out-of-pocket medical expenses that exceed 7.5 percent of your annual adjusted gross income. As of the time of publication, your adjusted gross income appears on line 37 of your federal tax return Form 1040. The expenses must be those that would qualify if you itemized your deductions. Examples of allowable expenses include payments to hospitals, doctors, chiropractors, psychologists and dentists, as well as the cost of prescription drugs, dentures and transportation. You may include premiums for health insurance for you and your family if you are unemployed and received unemployment payments for at least 12 consecutive weeks. You must also receive the funds during the same year as your unemployment payments or the year immediately after, and if you have returned to work, you must receive the funds within 60 days of your reemployment.