The rules for tapping into retirement accounts will vary, depending on the type of account(s) you have. I will list the typical rules for each account type, in order of how favorable the rules are.
1. Current employer 401k, 403b, or Thrift Savings Plan (TSP).
Most employers will offer the ability to borrow from these accounts while still actively employed with them. Expect to be able to borrow up to half of your current vested balance with a maximum limit of $50,000. The specific terms and requirements will vary from employer to employer, and can be found in your summary plan description (SPD). Ask human resources for a copy of this document. If you work for the federal government, your SPD is located here.
The benefit of using money from this retirement account is you will likely not pay a penalty nor taxes for using the funds. You will however pay interest in the money you borrow. The amount of interest is determined by your account service provider. But the interest is technically deposited into your retirement account balance, rather than being a cost that is paid to your retirement plan provider. This is because you are technically borrowing this money from yourself, and so the interest is paid back to yourself.
One concern with borrowing from this type of account is that if you leave your employer, you will be expected to pay back the funds by April 15 of the following year. If you do not, there’ll be taxes and a 10% penalty on the un-returned money. So, I wouldn’t recommend this option unless you plan to remain at your employer.
2. Old employer 401k, 403b, TSP
If you withdraw money from a prior employer 401k, you will pay taxes and a 10% penalty on the money withdrawn. Instead of this, I would recommend considering rolling over an old 401k into a current employer 401k or a traditional IRA. By doing that, you may have access to utilize some of the funds without paying taxes or penalties.
3. Traditional IRA
Most contributions to a traditional IRA are made before taxes (just like contributions to a 401k). So, if you withdraw money from a traditional IRA before age 59.5, you will pay taxes and a 10% penalty. However, the government allows first time home purchasers to withdraw up to $10,000 without taxes or penalties. This is worth considering if necessary.
4. Roth IRA
In my opinion this account type is the least favorable account to withdraw from. However, if the account has been opened for at least five years you may withdraw any money contributed to the plan. Why I think this is the least favorable option is that this money was contributed after taxes. The account will grow tax-free. So the money in a roth IRA is more valuable than the money held in the other retirement account types.
As always, I am not a tax advisor so I recommend speaking with your tax professional, human resources department, and/or your account service providers for more detailed information.
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