Early Withdrawal

Archive for June, 2009

Question: Is a money market IRA considered a traditional or Roth IRA?

I have a money market IRA that was converted from a Roth IRA over 2 years ago. I didn’t like the rate I was getting in the Roth and converted to the money market, but now I am unhappy with the return I am getting on the money market IRA. Is my money market IRA considered a traditional IRA? I’m 27 and would like to withdraw approximately 3,000 for something that would not qualify under any of the exceptions. Will I end up paying the 10% Early Withdrawal fee and will the 3000 be considered income?

Answer: My guess is that you still have a Roth IRA. I’m unaware of anyone converting a Roth IRA into a Traditional IRA. It’s usually the opposite. You probably just switched investment vehicles within your existing Roth IRA. However, your statement for the account should state the designation of “Roth IRA,” so that should be easy to determine.

Assuming you still have a Roth IRA, you can probably withdraw most of your money without triggering income taxes or an Early Withdrawal Penalty.

Why?

Because your Roth IRA is funded with after-tax dollars. As a result, your original principal contributions can be withdrawn tax-free and penalty-free. It’s only the interest you earned on your principal which is subject to income taxes and a 10% Early Withdrawal Penalty if withdrawn.

For example, suppose you made the following contributions to your Roth IRA and invested the funds in a money market account:

2008 – $3,000
2007 – $2,000
2006 – $1,000

Let’s say that in 2009, the account is worth $6,500.

Since your original contributions add up to $6,000, you can withdraw up to $6,000 tax-free and penalty-free. After all, you already paid income taxes on those contributions before you made them. However, the remaining $500 (interest earned) is subject to income taxes and a 10% Early Withdrawal Penalty if withdrawn.

I hope this helps!

The Main Event: Traditional IRA v. the Roth IRA v. the Self-Directed IRA

Question: Can I early withdraw from a Roth IRA with minimal penalties if it has taken a loss?

I have a Roth IRA that has a current value of $5,000, but I have put $8,000 into it over the past few years. I am 31 years old. As far as I can tell from reading on the net, there is a 10% Early Withdrawal Penalty, as well as I would get taxed on the profits at my normal tax rate (28%?). In this case however, there are no profits, as I have lost $3,000 rather than making any returns on my investment. Would I be able to close this account and clear roughly $4,500 without any other tax penalties? Thanks much.

Answer: I assume your contributions did not come from another retirement plan.

You can withdraw up to your contribution at any time without tax or penalty. If you choose to close this account and its value is less than your contribution, no tax or penalty will be owed.

If you have a $3,000 loss and this is your only IRA, you can take the loss as a miscellaneous deduction on Schedule A, subject to a 2% of AGI floor.