John R. Bullis: Avoiding the penalty for early IRA distributions

The general rule is if you take a distribution from your traditional IRA before you have attained age 59 1/2, there is a penalty of 10 percent of the amount of the distribution. That is in addition to the income tax on it.

However, there are a few exceptions that avoid the penalty.

Certain eligible unemployed individuals that use the distribution to pay qualified medical insurance premiums are not subject to that 10 percent penalty. To be eligible, you must have received federal or state unemployment compensation for 12 consecutive weeks.

The qualified medical insurance premiums must be for you, your spouse and dependents. The IRA distributions must be received in the year you received unemployment compensation, or the following year. To determine if the premiums are deductible, the adjusted gross income (AGI) floor for claiming medical expenses as an itemized deduction are ignored.

Another exception to the early withdrawal 10 percent penalty is if the IRA distribution is used to pay for qualified higher education expenses for you, your spouse, child or grandchild of you or your spouse. Qualified educational expenses include tuition, books, fees, supplies and equipment.

Still another exception to the early withdrawal 10 percent penalty is when the IRA distribution is used for qualified expenses of a “first-time” home buyer. This is limited to $10,000 of IRA distributions taken during your lifetime. Qualified expenses include the cost to buy, settlement charges and closing costs. It must be the principal residence for you, your spouse, child or grandchild, or an ancestor of you or your spouse. “First-time” home buyer means the person buying the residence must not have had an ownership interest in a principal residence during the two year period ending on the date that the new home is acquired.

Distributions that are timely and properly rolled over into an IRA or other qualified Plan do not incur that 10 percent penalty. Also, distributions upon the death or disability of the participant (owner) avoid the penalty.

IRA distributions paid after separation from work that are part of a series of substantially equal periodic payments (paid at least every year) over the lifetime (life expectancy) of the participant or the joint lives (or joint life expectancies) of the participant and the beneficiary avoid the 10 percent penalty. This applies especially to athletes like baseball players who retire well before age 59 1/2.

Did you hear? “The best things in life are not things,” by Ann Landers.

John Bullis is a certified public accountant, personal financial specialist and certified senior adviser who has served Carson City for 45 years. He is founder emeritus of Bullis and Company CPAs.


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