Roth IRA early withdrawal: am I doing this right?

July 17, 2013 10:27 AM

I have made 20k in Roth IRA direct contributions over the past few years. That investment is now worth 25k with interest earned. I wish to withdraw 5-10k from this account. Will that withdrawal be tax and penalty free?

I am under age 59-1/2 and I have not had the account for 5 years. But as I understand it, I do not have to pay taxes or penalties on any of that 20k I have directly contributed for the account, no matter when I pull it out. The penalties and taxes would only come into play on that extra 5k my money has earned, which I am not touching.

I feel pretty convinced that I have this correct, but as I begin the process of withdrawing online, the following message is displayed:

This transaction will be reported to the IRS as an early distribution because our records show you are under age 59½. This distribution may be subject to a 10% penalty from the IRS unless you qualify for an exception.

After that it asks me if I want them to withhold any taxes on the withdrawal.

I assume this message and question about taxes would be displayed whether it applies to me or not, but seeing it made me nervous. Is this withdrawal really tax and penalty free like I think it is?

posted by kosmonaut to Work & Money (9 answers total)

Best answer: You have it correct. You won't owe a penalty and you shouldn't have them withhold taxes.

Here is what the IRS has to say about it. You do not include in your gross income qualified distributions or distributions that are a return of your regular contributions from your Roth IRA(s).
posted by payoto at 10:30 AM on July 17, 2013 [3 favorites]

Best answer: payoto got to the correct answer before I did.

A further fact that seems obvious, but is actually surprisingly difficult to find out, is that withdrawals from Roth IRAs are always "contribution-first" so that you don't inadvertently end up with some of your earnings. As a result, 0% of your withdrawal will be earnings, so 0% of your withdrawal will be taxable or penalized.
posted by saeculorum at 10:33 AM on July 17, 2013 [1 favorite]

Best answer: You are correct. I like this blurb at the oblivious investor that discusses withdrawals of contributions, the rules for withdrawing earnings and the order of distributions.
posted by nightwood at 10:47 AM on July 17, 2013

When I did this a few years ago I was told that the contributions had to have been made at least 5 years before the withdrawal was made. Only the amount that had been in the account longer than 5 years could be withdrawn.
posted by citygirl at 10:49 AM on July 17, 2013

When I did this a few years ago I was told that the contributions had to have been made at least 5 years before the withdrawal was made. Only the amount that had been in the account longer than 5 years could be withdrawn.

This is NOT true of a withdrawal of direct contributions. Only of "qualified distributions" which can include earnings or rollover/conversion amounts. The return of direct contributions at any time never incurs tax or penalty whether you wait or not.
posted by payoto at 10:57 AM on July 17, 2013

Response by poster: Thanks so much for your answers — they really make it clear. My wife and I actually looked at the IRS documentation ourselves but were too confused about the terminology to be able to figure it out.

I can now complete my withdrawal with confidence!
posted by kosmonaut at 11:40 AM on July 17, 2013

I think they put that message on there for people who are making the withdrawal from a regular IRA. It must just be a standard IRA message that doesn't differentiate between regular and Roth.
posted by triggerfinger at 2:05 PM on July 17, 2013

It needs to be a qualified distribution. This means you have to be 59 and 1/2, putting a payment down on your first house, or dying. You really need to look into this. Make sure you're not getting taxed on the way out.
posted by FinanceGuy at 11:46 AM on July 22, 2013

Response by poster: I just wanted to follow up on this for anybody who has the same question. I did indeed take out 5k from my Roth IRA. I received a Form 1099-R (Distributions from Pensions, [...] IRAs, [...] etc.), which indicated a got a 5k distribution, and the "taxable amount not determined" box was checked. I then entered all of the relevant info into TurboTax. In particular, I indicated that I was not 59-1/2, that I did not have the Roth IRA for 5 years, and that I did not use any of the money towards the purchase of a new home. At this stage, TurboTax had dinged me for over 1k in extra taxes. But then when I entered the amount I had contributed to the Roth IRA aside from what I took out (which was 10k), all of the extra taxes disappeared.

So, my conclusion is that this does follow what payoto, saeculorum, and nightwood were saying, namely that you can withdraw from your Roth IRA at any time for any reason, provided what you have contributed in the past still exceeds what you've withdrawn. Only once you've withdrawn more than you have ever contributed do things like your age, the length of time you've had the IRA, and whether you bought a home become crucial in avoiding penalties.

I hope this helps someone else!
posted by kosmonaut at 6:37 PM on January 24, 2014