How to Calculate Early Withdrawal Penalties on a 401(k) Account

If you are thinking of withdrawing money from your 401(k) plan before age 59-1/2, be aware of the potential IRS penalties and taxes.

Under normal circumstances, participants in a traditional or Roth 401(k) plan are not allowed to withdraw funds until they reach age 59½ or become permanently unable to work due to disability without paying a 10% penalty on the amount distributed.

Generally speaking, the only penalty assessed on early withdrawals from a 401(k) retirement plan is that 10% additional tax levied by the IRS. This tax is in place to encourage long-term participation in employer-sponsored retirement savings schemes.

Exceptions to this rule include certain hardship distributions and major life events, like tuition payments or home purchases. There are also some variations of this rule for those who separate from their employers after age 55 or work in the public sector, but the majority of 401(k) participants are bound by this regulation.

Another factor to consider when making early withdrawals from a 401(k) is the impact of income tax. Contributions to a Roth 401(k) are made with after-tax money, so no income tax is due when contributions are withdrawn. However, contributions to traditional 401(k) accounts are made with pretax dollars, meaning any withdrawn funds must be included in your gross income for the year the distribution is taken. If your 401(k) plan has a vesting schedule, that will also factor into the amount you can withdraw and how it may be taxed.

For a complete discussion of the potential penalties and income tax levied on any withdrawal, you should consult this article.