Roth IRA Withdrawal Rules

Updated: Jun. 23, 2022By: Kimberlee Leonard

Roth IRAs are powerful tax-sheltered accounts that help investors grow money tax-deferred and in most cases, take money out tax-free. While most IRA rules will cite that you need to be 59 ½ years or older to take money out without penalty, the Roth does have some special circumstances for distribution that investors should be aware of.

Roth IRA rules with stack of papers and pen.

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How Roth IRA Withdrawal Rules Work

When it comes to retirement plans, the IRS generally taxes money before contributions are made, as in the case of Roth IRAs, or when the money comes out, as in the case of traditional IRAs and 401(k)s. As a general rule, investors must hold an IRA until they are 59 ½ years old before taking distributions, otherwise, they’ll be assessed a tax penalty of 10% on top of whatever taxes are owed. Roth IRAs also have one additional rule for qualified distributions, which is the "5-year rule".

However, Roth IRAs share the same exceptions as traditional IRAs for unpenalized early distributions. The exceptions include eligible educational expenses, first-time home buying expenses, and eligible medical expenses.

Order of Distributions from an IRA

Distributions from an IRA come out in a specific order:

  1. Contributions
  2. Rollover or transfer amounts
  3. Earnings

Roth IRA 5-Year Rule

The 5-year rule is unique to Roth IRA plans and does not apply to traditional IRAs, 401(k) plans, or other retirement plans. The 5-year rule says that regardless of your age, you must hold assets in a Roth plan for at least five years from the initial funding before you are eligible to take out tax-free withdrawals. Otherwise, you may pay income taxes.

Tip: Bear in mind that Roth IRAs are funded with after-tax dollars, so only the earnings are subject to taxes and penalties if withdrawn too soon. This holds true for the five-year rule as well. Investors can take out the contribution amounts without penalty at any time.

The 5-year rule also applies specifically to conversions into a Roth from a traditional IRA or a 401(k). The rule says that funds converted from another plan must remain in the Roth for five years to be withdrawn tax-free, regardless of how long the Roth itself has existed.

Waiting five years to withdraw funds is easy for someone who is 35 years old and isn’t likely to need their Roth funds for another 25 years or so. However, someone approaching retirement age must be keenly aware of this rule to make sure they don’t violate it and subject their withdrawal to taxes and penalties.

There is one way to get around both the age requirement and the five-year rule, and that is to qualify for one of the qualified distribution exceptions, which include

  1. Education expenses
  2. First-time home-buying expenses
  3. Qualified medical expenses

Takeaway: Roth IRAs are subject to the same early withdrawal rules as traditional IRAs and 401(k)s plus an additional five-year rule that applies only to Roth accounts. However, both the standard rules and the five-year rule can be circumvented for certain education, home-buying, and medical expense exceptions.

Qualified Distributions

Qualified Roth distributions are those distributions that meet the standard distribution rules of the IRS. This means that the account is at least five years old and the account holder is at least 59 ½ years of age.

There are additional qualified exceptions that allow investors to take out distributions before these two parameters are met without facing the 10% tax penalty. These include:

  • Being disabled
  • Payments made to beneficiaries upon the death of the account holder
  • Using up to $10,000 for a first-time home purchase
  • Paying unreimbursed medical expenses exceeding 10% of the account holder’s AGI
  • Paying health insurance premiums while unemployed
  • Education expenses for self, spouse, child, or grandchild
  • Rollovers

Non-Qualified Distribution

When you take money out of a Roth IRA, the contribution amount is never taxed since that amount was taxed before you funded the IRA. Non-qualified distributions are those that don't meet the age requirement or five-year rule and are not eligible for one of the qualified exceptions listed above.

Non-qualified distributions that represent earnings are taxed and penalized. For example, assume an account holder contributed $5,000 to a Roth IRA and it has since grown to $6,000. If she pulls this amount out one year later, the original $5,000 is tax-free but the remaining $1,000 is a non-qualified distribution and therefore taxed as income. If she is not yet 59 1/2 years old, there is an additional $100 penalty on the $1,000 (10%).

Roth IRA Rules for Education Expenses

The Roth IRA has become one way to fund higher education expenses for children. Using Roth IRA funds for college or education meets the criteria as a qualified exception for distribution. There is no limit to how much can be taken out for these expenses as long as they are used for education costs such as tuition, books, and fees. Students enrolled at least half-time can also use the Roth for room and board.

Any amount taken out over the cost of actual expenses is subject to a 10% penalty. The student must be the account holder, a spouse, child, or grandchild to be eligible for the penalty exception.

Roth IRA Rules for First-Time Homebuyers

Like the education expense exception, there is a qualified exception for first-time home buyers use Roth IRA funds without penalty. Account holders can pull up to $10,000 from a Roth IRA to fund the purchase of a first-time home. A first-time home buyer is someone who has not owned a principal residence for at least three years from the date of purchase.

Only one spouse needs to qualify as a first-time home buyer for the couple to be considered first-time home buyers. Each spouse is able to take out $10,000 from their respective Roth IRAs without the 10% tax penalty to help pay the costs of buying a home. These costs include a down payment, earnest money, and closing costs.

Roth IRA Rules for Medical Expenses

The Roth IRA has two qualified exceptions when it comes to medical costs.

  1. Account holders can use Roth funds without the 10% penalty for medical diagnostics, treatment, and prescriptions. The medical expenses must exceed 10% of the account holder's AGI to be eligible for this exception.
  2. Account holders can use Roth funds to pay for medical insurance premiums when the account holder is unemployed. Again, these qualified exceptions mean Roth holders don’t need to pay the 10% penalty but will need to add distributions exceeding contributions to their income taxes.

Bottom Line

Standard rules for Roth IRAs say that account holders must hold the funds until age 59 ½ and for at least five years to avoid paying tax and a 10% penalty on earnings. However, there are several key exceptions that exempt Roth holders from tax and penalties that include education expenses, first-time home buying expenses, and medical expenses.

This article was written by

Kimberlee Leonard profile picture
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Kimberlee brings professional experience to her writing. She started as a FINRA Series 7 broker and later transitioned her career into owning an insurance agency and preparing taxes.

Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

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