Exploring the Exceptions to IRS 10% Penalty

Lynn Knight

When an individual takes a distribution from an IRA or retirement plan before reaching age 59½, the general rule is that the distribution is subject to a federal 10% penalty in addition to any federal and, if applicable, state income taxes. The good news is that there are several exceptions to this rule. However, the exceptions are not the same for distributions from IRAs and distributions from retirement plans, which can be a source of confusion.

Below is a discussion of the most common exceptions to the IRS 10% penalty and whether the exception applies to distributions made from an IRA and/or a retirement plan.

Exceptions to the IRS 10% Penalty

Payments made to a disabled individual
Applies to IRA distributions: yes
Applies to retirement plan distributions: yes

Payments made to an individual in at least annual installments over the life (or life expectancy) of the individual or the joint lives of the individual and the designated beneficiary
Applies to IRA distributions: yes
Applies to retirement plan distributions: yes

Payments made to a beneficiary after the death of an individual
Applies to IRA distributions: yes
Applies to retirement plan distributions: yes

Payments made to an individual for qualified medical expenses greater than 10% of adjusted gross income
Applies to IRA distributions: yes
Applies to retirement plan distributions: yes

Payments made for an individual’s federal tax levy
Applies to IRA distributions: yes
Applies to retirement plan distributions: yes

A distribution made to an individual after the individual has separated from service and the separation from service occurred during or after the calendar year in which the individual reached age 55
Applies to IRA distributions: no
Applies to retirement plan distributions: yes

A distribution made from a governmental retirement plan to a qualified public safety employee after the individual has separated from service and the separation from service occurred during or after the calendar year in which the individual reached age 50
Applies to IRA distributions: no
Applies to retirement plan distributions: yes

Payments made to an alternate payee under a qualified domestic relations order (QDRO)
Applies to IRA distributions: no
Applies to retirement plan distributions: yes

Payment for certain higher education expenses
Applies to IRA distributions: yes
Applies to retirement plan distributions: no

First time home purchase up to $10,000
Applies to IRA distributions: yes
Applies to retirement plan distributions: no

As shown in the above information, the exceptions to the IRS 10% penalty can be confusing since the exceptions apply differently to IRAs and retirement plans. An individual who has not yet reached age 59½ and wanting to take a distribution from an IRA or retirement plan should discuss whether one of these exceptions could apply to the distribution with their legal or tax advisor in order to avoid the potentially costly IRS 10% penalty.

Lynn Knight, CEBS, is a Senior Advanced Consultant at Voya Financial and a member of Technical Services for Tax-Exempt Markets there as well. Lynn has worked extensively in the retirement plan field for a broad spectrum of defined contribution plans, including 403(b), 401(k) and 457(b) plans, both at law firms and with retirement service providers. She also is a member of the NTSA Communications Committee.

This material was created to provide accurate information on the subjects covered. It is not intended to provide specific legal, tax or other professional advice. The services of an appropriate professional should be sought regarding your individual situation. These materials are not intended to be used to avoid tax penalties, and were prepared to support the promotion or marketing of the matters addressed in this document. The taxpayer should seek advice from an independent tax advisor.

Opinions expressed are those of the author, and do not necessarily reflect the views of NTSA or its members.