FOR those considering withdrawing money prematurely from your retirement accounts– know that it can cost you thousands over time in penalties.
The most common type of accounts are 401ks and individual retirement accounts (IRA).
A big difference between the two is typically a 401k offers an employer match, while an IRA account allows you to choose between more investment options.
But both are designed to help you meet your savings goals, which some argue is nearly $2million to retire comfortably.
However, if you decide to start withdrawing before you reach 59 and a half – you will be slapped with an extra 10% penalty in addition to income taxes.
When you withdraw early, this is often defined as “leakage.”
But some Americans will withdraw their 401k savings once they switch employers.
And those who are under age 55 when withdrawing after leaving a job are slapped with the 10% penalty.
“The average person today will work for between seven and 11 employers,” Republican Senator Tim Scott said last week at a committee hearing.
“That means that every time you change jobs, you have a chance to withdraw your money from your 401(k), and [when you cash out or lose accrued retirement savings].”
The South Carolina Republican added that roughly $92billion was lost in 2015 due to leakage.
We explain below how much money it could cost you by withdrawing early.
How much money you could lose
It might be different for everyone depending on when and how often you withdraw.
Moreover, you’ll want to consider how much money you have saved up.
Let’s assume you need to withdraw once and you use the “rule of thumb” 4% withdrawal and you have a savings of $51,000 – which is the average retirement balance of those aged 35-44.
The 4% rule means you’re withdrawing $2,040.
To estimate the rest, you could use a retirement plan withdrawals calculator from Mortgage Calculator.
What you’ll need to do then is enter your age, withdrawal amount, and state and federal tax rate.
Assuming you withdraw $2,040 and the tax rate for both is 8% each – you’ll lose $530 in penalties and taxes.
If you withdraw five times ($10,200), you’ll lose $2,652.
If you double your withdrawals to ten ($20,400), you would then lose $5,304.
How to avoid penalties when switching jobs
There is one way you can avoid penalties when switching jobs – and that’s by rolling your 401k from your previous employer over into your IRA account.
This is penalty-free if you roll over within the 60 days that you’ve received the distribution from your IRA, according to finance and investment guru Chris Panteli.
“If you do not do this, you will be forced to take out money from your 401k when you change jobs,” he said
“This will cost you money and you will not be able to continue saving for retirement.”
One exception
Overall, it’s probably best to avoid withdrawing if you can before you turn 59 and a half – but there might be one exception.
Withdrawing early might play to your advantage if you are currently a high-income earner who thinks you will move to a lower tax bracket at retirement.
Matt Hylland, a financial planner at Arnold and Mote Wealth Management, uses an example for someone in the 32% tax bracket that will move down to 12%.
He said: “In this example, this retiree will have an effective net tax rate of 12%, plus the 10% penalty, or 22% in total.
“This is still much lower than their 32% tax rate while working.
