WHAT IS 'Hardship Withdrawal'

Hardship withdrawal is an emergency withdrawal from a retirement plan that may be subject to certain tax or account penalties. In the United States, funds withdrawn prior to the age of 59.5 are typically subject to a 10 percent Internal Revenue Service, or IRS, early withdrawal penalty, as well as standard income taxes.

BREAKING DOWN 'Hardship Withdrawal'

Hardship withdrawals from a retirement plan such as a 401k cannot be replaced. The money that is withdrawn is permanently removed from the account, and only scheduled future contributions are permitted. The stiff penalties and criteria for hardship withdrawals are meant to deter investors from using this option except as a last resort. The ability to have money free from future income taxes and capital gains taxes, a trait of most retirement accounts, is a valuable asset, and is necessary for many to achieve stable retirement.

Systematic withdrawal plan as alternative to hardship withdrawals

Investors may structure and use a systematic withdrawal plan, or SWP, for various payout needs, including retirement. SWPs can be structured as investment vehicles in the market including: mutual funds, annuities, brokerage accounts, 401k plans and individual retirement accounts, or IRAs. Retirement investment account SWPs require additional due diligence because they are regulated by IRS guidelines. The IRS requires that investors begin taking withdrawals from a traditional IRA, SEP IRA, SIMPLE IRA or retirement plan account at the age of 70½.

For standard investment accounts, mutual funds and other account providers will require a SWP form, or distribution form. Investors can determine various distribution schedules including monthly, quarterly, semi-annually or annually. Accounts typically have a minimum balance requirement for beginning systematic withdrawals. For convenience, investors may have the option to specify liquidation percentages by funds for accounts with multiple holdings. This can occur with mutual fund company holdings, brokerage accounts or portfolios managed by a financial advisor. In preparing for and initiating a SWP, investors need to consider taxes and potentially a systematic transfer plan. A tax advisor can help determine the tax rate for withdrawals from standard and retirement accounts.

Because withdrawals require selling securities to make distributions from standard accounts, typically they are taxed as income, and retirement account withdrawals have their own tax structure. Systematic withdrawal plan calculators or standard retirement calculators are useful in planning. They help investors determine the target amount needed to cover withdrawals. Variables include age, annual salary, retirement savings income allocation, current allocation, retirement income needs, expected annual return from investment, social security estimates and other retirement fund estimates.

RELATED TERMS
  1. Required Minimum Distribution Method

    The required minimum distribution method is an age-based formula ...
  2. Systematic Withdrawal Plan - SWP

    A systematic withdrawal plan (SWP) is a scheduled investment ...
  3. Mortgage Equity Withdrawal

    Mortgage equity withdrawal is the total of the equity taken out ...
  4. SEC Form AW

    SEC Form AW is a form that must be filed with the Securities ...
  5. Notice Of Withdrawal

    A notice of withdrawal is a notice given to a bank by a depositor, ...
  6. Retirement Planning

    Retirement planning is the process of determining retirement ...
Related Articles
  1. Retirement

    The Cost of Tapping Your Retirement Accounts Early

    It only makes sense in some situations to tap into retirement accounts early as a last resort.
  2. Retirement

    New Relief for 401(k) Hardship Withdrawals

    The new budget bill has some relief for those taking 401(k) hardship withdrawals. Here’s a look at the new rules, which take effect in 2019.
  3. Retirement

    When a 401(k) hardship withdrawal makes sense

    If you've exhausted all other avenues, there are ways to withdraw funds before age 59½ – sometimes without the 10% penalty that's usually due.
  4. Taxes

    How 401(k) Withdrawals Work When You're Unemployed

    Unemployed individuals can pursue several options when taking money out of their 401(k), but they should carefully weigh taxes and possible penalties.
  5. Retirement

    Your 401(k): Not the Best Emergency Fund

    If you have an emergency and need to access your retirement funds, you may have to pay a penalty if you dip into your 401(k). But there is a better option.
  6. Retirement

    When 401(k) In-Service Withdrawals Make Sense

    In-service withdrawals from a 401(k) may be a wise consideration under the right circumstances.
  7. Retirement

    What Will Withdrawing Early from Your 401(k) Cost You?

    How to calculate the penalties on early withdrawals from your 401(k), including the 10% tax penalty, vesting and income tax.
  8. Financial Advisor

    Top Tips for Maximizing Retirement Withdrawals

    There can be significant tax advantages to taking withdrawals from one retirement account over another. Here's how to help clients plan.
  9. Retirement

    6 Signs You're Ready to Retire Early

    If you can answer "yes" to these six questions, you may be ready to retire early.
  10. Retirement

    The True Cost of Early 401(k) Withdrawals

    Don't use your 401(k) like a big piggy bank, you'll lose more than you might realize.
RELATED FAQS
  1. Are 401(k) withdrawals considered income?

    Learn why 401(k) withdrawals are taxable income, and find out when those withdrawals are also subject to an additional penalty ... Read Answer >>
Hot Definitions
  1. Inflation

    Inflation is the rate at which prices for goods and services is rising and the worth of currency is dropping.
  2. Discount Rate

    Discount rate is the interest rate charged to commercial banks and other depository institutions for loans received from ...
  3. Economies of Scale

    Economies of scale refer to reduced costs per unit that arise from increased total output of a product. For example, a larger ...
  4. Quick Ratio

    The quick ratio measures a company’s ability to meet its short-term obligations with its most liquid assets.
  5. Leverage

    Leverage results from using borrowed capital as a source of funding when investing to expand the firm's asset base and generate ...
  6. Financial Risk

    Financial risk is the possibility that shareholders will lose money when investing in a company if its cash flow fails to ...
Trading Center