Explanation

• Early withdrawals from a retirement plan must be included on your federal tax return as taxable income. The withdrawal will be treated as a distribution and taxed at the ordinary income tax rate. If you are younger than 59 1/2 when you make the withdrawal, the federal government will impose an additional 10 percent penalty on the amount you received. However, if you are at least 59 1/2 or older, you will be required to pay taxes on the withdrawal but you will not have to pay do not have to pay the early withdrawal penalty regardless of your employment status.
  
  

IRA Exception

• The Internal Revenue Service on certain occasions allows taxpayers to make early retirement account withdrawals without paying the 10 percent penalty. One of those instances is when an unemployed person under the age of 59 1/2 needs to make a withdrawal from an IRA to pay for medical insurance. This special IRS, however, rule does not apply to unemployed people with retirement funds in a 401k or a 403b.
  
  

Requirements

• For an unemployed worker to qualify for the federal penalty exemption, she would have to have been receiving unemployment benefits for at least 12 consecutive weeks and she would need to make the withdrawals either in the same year you lost your job or a year later. The privilege of avoiding the penalty for early withdrawals ends 60 days after you get a new job.
  
  

Other Disadvantages

• The early withdrawal penalty may not be the worst part of tapping a retirement account before reaching retirement age. The lost of compound interest could end up costing you much more. For instance, if a 30 year old person in a 25 percent tax bracket withdrew $20,000 from a retirement account for living expenses due to unemployment, he will only receive $15,000 after federal taxes. But if the $20,000 had stayed invested for the next 35 years at 8 percent it would have grown to $296,706.