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Generally, it is never a good idea to take distributions
from a 410(k)-type
plan except for their intended use. These plans were
authorized by
Congress to provide tax-deferred savings that are intended
to provide
support for the plan participant when disabled or during
post-age 59-½ retirement. Although all distributions
are taxable, those taken before
reaching the age of 59-½ are subject to an additional
10% “early distri-
bution” penalty on the taxpayer’s federal
return and may also be penalized
on the state return. Thus, the combination of federal
tax, state tax (if
applicable) and the early withdrawal penalty can make
it very expensive
to tap these funds prior to retirement, and taxpayers
should first look for
other alternatives.
Hardship Withdrawals - However, if
the particular plan permits,
taxpayers are allowed to take a “hardship”
distribution from the plan.
Generally a “hardship” distribution is described
as cash withdrawal to
satisfy an immediate and heavy financial need of the
employee (plan participant) and is necessary to satisfy
the financial need. Tax regu-
lations specify the following as distributions on account
of an immediate
and heavy financial need:
| Note: Under changes
mandated by the 2006 Pension Protection Act, the
“hardship” definition has been liberalized
to include certain expenses of a primary beneficiary
under the plan. Those changes are reflected
below. |
(1) Expenses for medical care that would ordinarily
be deductible which includes expenses for the care of
a spouse, dependent or primary
beneficiary under the plan;
(2) Costs directly related to the purchase of a principal
residence for the employee (excluding mortgage payments);
(3) Payment of tuition, related educational fees, and
room and board expenses, for up to the next 12 months
of post-secondary education for
the employee, or the employee's spouse, children, dependents,
or primary beneficiary under the plan;
(4) Payments necessary to prevent the eviction of the
employee from the employee's principal residence, or
foreclosure on the mortgage on that residence;
(5) Payments for burial or funeral expenses for the
employee's deceased parent, spouse, children, dependents
or primary beneficiary under the plan;
or
(6) Expenses for the repair of damage to the employee's
principal residence that would qualify for the casualty
deduction.
Caution: Even though hardship withdrawals
are allowed, they are still
taxable distributions and are subject to the early withdrawal
penalty
unless they meet certain exceptions. 
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