3 withdrawal rules you need to know about a Roth IRA | personal finance

(Stefon Walters)

Roth IRAs are a great tool for saving and investing for retirement. Unlike a 401(k), your contributions to a Roth IRA are after-tax, so you can reap the back-end benefits after your money has had a chance to grow and compound tax-free ( while your tax benefits for traditional IRA accounts are at first with the possibility of deductions).

That said, Roth IRAs also have markedly different withdrawal rules than a 401(k) and traditional IRA. This is what you should know.

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1. Withdrawals of contributions are not taxed or penalized

Roth IRA withdrawal rules largely depend on the “type” of money you’re withdrawing. You can withdraw your contributions, but not your earnings, at any time, for any reason, without paying taxes or penalties. This is because you already paid income taxes on the money you contributed before you put it into your Roth IRA. Contributions are the money you put into the account, and earnings are the profits you made on your investments.

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When you withdraw money from your Roth IRA, it’s treated as if it came in a specific order:

  1. personal contributions
  2. Money converted from a traditional 401(k) or IRA
  3. Profits

Let’s say you contribute $6,000 to a Roth IRA and it generates $4,000 in earnings, bringing the value of the account to $10,000. If you withdraw $8,000, $6,000 will be treated as contributions and $2,000 as earnings.

2. How the five-year rule affects the taxation of earnings

The earnings you earn on your investments in your Roth IRA are subject to different withdrawal rules. If you want to withdraw earnings from your account without paying income taxes or an early withdrawal penalty, you must be at least 59 1/2 years old and at least five years must have passed since you first contributed to the account (regardless of your age). . If you’re age 70 and made your first contribution three years ago and withdraw earnings, you’ll owe taxes on that amount.

The five-year countdown begins on January 1 of the year in which you made your first contributions. If you make your contribution on June 1, 2022, for example, you would have to wait until January 1, 2027. You also have until April 15 to make prior year contributions, which could affect your schedule. If your first contribution was on March 1, 2022, for tax year 2021, you will have to wait until January 1, 2026 for your five-year timer to run out.

3. How qualified and non-qualified distributions work

The IRS allows some exceptions to the withdrawal rules, known as qualified distributions. Qualified distributions are free of taxes and penalties once you’ve met the five-year rule, regardless of your age.

Withdrawals meet the qualified distribution requirements if you are:

  • Taken due to a permanent disability.
  • Made on or after the day of your 59 1/2 birthday.
  • Awarded to a beneficiary after his death.
  • Used to purchase your first home ($10,000 is the maximum amount).

Non-qualified distributions do not meet the above requirements, but you may be able to make withdrawals without penalty if the following situations apply:

  • It is for unreimbursed medical expenses that exceed 17.5% of your adjusted gross income.
  • It is to pay for health care premiums after losing a job.
  • You are using it for adoption or childbirth costs (up to $5,000).
  • It is for disaster recovery.
  • You are facing an IRS lien.

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