Yahoo Finance The IRS offers a simple way to access $1,000 fast — interest-free and penalty-free. Here's what you need to know
While emergency expenses can be difficult to save for, the IRS now offers a new way for you to fund an unexpected payment: your retirement accounts.
Thanks to the Setting Every Community Up for Retirement Enhancement Act (SECURE Act 2.0), Americans can now withdraw up to $1,000 from tax-advantaged retirement plans without incurring the customary 10% tax penalty, effective January 1, 2024.
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There are some rules and limitations to know, though 一 and, of course, it's crucial to consider whether taking advantage of this new option is right for you.
Here are the rules for accessing your $1,000
When you contribute to tax-advantaged retirement plans such as 401(k)s and IRAs, there's a longstanding rule that you must leave the money invested until you’re 59 ½ years old to avoid a 10% penalty for early withdrawals.
While there are also some longstanding exceptions to this rule, most are very specific and limited, including life circumstances like having a child or acquiring a permanent disability. However, the SECURE Act 2.0 created a new exception anyone can take advantage of. You can now take out $1,000 for any "unforeseeable or immediate financial needs relating to necessary personal or family emergency expenses."
Fortunately, you don't have to specify what that need is, so you can essentially access up to $1,000 of your retirement funds for any reason without incurring the penalty that normally applies. However, there are a few caveats:
If you're taking the money out of your 401(k), you must self-certify that the withdrawal is for emergency expenses
You're only allowed one $1,000 distribution per calendar year, unless you repay the funds within the same year or make an equal or greater contribution
Not all employer-sponsored 401(k)s allow these withdrawals
You can't withdraw so much that it drops your account balance below $1,000
You have three years to repay the withdrawn funds. If you don't repay the funds, you're taxed at your ordinary income tax rate
Despite these limits, those who are faced with emergency costs may appreciate the ability to quickly and easily access $1,000 without having to pay interest charges or apply for credit.
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Should you tap your retirement account for emergencies?
While there are upsides to being able to tap into your retirement fund, there are also some serious disadvantages too.
First and foremost, raiding your retirement account can put your financial future at risk. You need retirement savings to help support you as Social Security replaces only 40% of your pre-retirement earnings and isn't enough to live off of. Withdrawing $1,000 may not seem like a big deal, but if you don't put the money back, you're losing all the capital gains that money could have earned.
If you took out $1,000 30 years before retirement and never put it back, your account could end up with just under $17,500 less than if you'd left that money alone (assuming a 10% average annual ROI. That's a big decline 一 especially if you withdraw $1,000 from your accounts several times over your career.
If you don't repay the funds, you'll also be taxed on the distribution, so you aren't even walking away with the full withdrawal.
Now, you may assume you'll pay the money back, but there's no guarantee this will happen as life can get in the way. Plus, you may risk buying and selling your investments at a bad time if you pull a portion of your money out of the market. Fidelity found missing the five best days in the market over 42 years could leave you with approximately $411,000 less on a $10,000 investment balance compared to if you'd been investing your original balance the whole time. Pulling your money out means you risk missing those big market rallies that grow your balance.
These risks are why most financial experts warn against any kind of early withdrawals, including 401(k) loans that allow you to borrow against your accounts.
Rather than relying on your retirement fund for emergencies, it can be a good idea to have a dedicated emergency fund in a high-yield savings account that you can access when you need it. If you're already facing an emergency without one, consider other options such as picking up a temporary side gig.
While it may seem hard to come up with extra money now, it may be a lot harder later on as a broke retiree if you've raided your investment fund and have too little saved.
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This article provides information only and should not be construed as advice. It is provided without warranty of any kind.
