More Americans are tapping their workplace retirement accounts to cover emergency expenses, according to Vanguard data. In 2024, a record 4.8% of account holders took hardship withdrawals, up from 3.6% in 2023 and up from about 2% before the pandemic.
Whether cracking open your retirement nest egg is a good idea depends on your financial situation, goals and alternatives. We’ll review options for accessing your retirement funds early and their pros and cons.
4 ways to withdraw funds early from a 401(k)
Here are four ways to tap your workplace retirement plan before reaching the official retirement age of 59.5.
1. Take a hardship withdrawal
Retirement hardships are specific circumstances approved by the IRS, including paying for yourself, your spouse, your dependents, or your primary plan beneficiary:
- Medical bills
- Funeral expenses
- Purchase of a primary residence (or costs to repair it or avoid its foreclosure)
- Tuition
- Expenses related to a federally declared disaster
You can only withdraw the amount necessary to meet your hardship. And you may need to prove that you have no other means to cover the expense.
The primary downside of a 401(k) hardship withdrawal is that it isn’t tax-free. You must pay income taxes plus a 10% early withdrawal penalty if you’re younger than 59.5.
Plus, you typically can’t contribute to your retirement account for six months after taking a hardship withdrawal. That means missing potential investment gains on the withdrawal and any contributions you may have made.
However, if you need quick access to funds you don’t plan to repay your retirement account, a hardship withdrawal is available to most plan participants, regardless of your financial situation.
2. Take an emergency withdrawal
An IRS rule that began in 2024 permits you to withdraw up to $1,000 annually for any reason if your workplace retirement plan allows it. However, you can’t take another withdrawal unless you repay the funds to your account (without interest) within three years.
While this emergency withdrawal is easy to access, it may not be large enough to cover a significant financial hardship or need.
3. Get an account loan
If your workplace retirement plan allows loans, you can borrow from yourself up to half your vested balance or $50,000. For example, if you have $80,000 vested, the maximum you can borrow is $40,000 ($80,000 x 0.5). If your vested 401(k) balance is $200,000, the most you can borrow is $50,000.
You can even take multiple 401(k) loans if the total doesn’t exceed your allowable limit. However, you must repay a retirement account loan with an interest rate and schedule specified in your plan document. That helps compensate for lost time when your borrowed funds aren’t invested and can’t grow.
A retirement loan repayment period is typically five years, but it may be longer if you use the funds to buy a home. You must make payments in equal amounts that include principal and interest, which get deducted from your paychecks.
If you repay a 401(k) loan on time, you won’t owe income taxes or penalties. However, if you don’t repay it on time, your outstanding balance gets considered an early withdrawal if you’re younger than 59.5. In that case, you’d be subject to income tax plus an additional 10% penalty on the unpaid loan amount.
That means if you get fired or choose to leave your job and have an outstanding 401(k) loan balance, it becomes an early withdrawal unless you repay it by your tax filing deadline.
The advantages of taking a retirement account loan include:
- Accessing funds quickly, no matter your financial situation
- Paying a relatively low interest rate compared to other debt, like credit cards and personal loans
- Repaying yourself over a short term
- Spending it any way you like
The disadvantages of a retirement loan include:
- Missing potential investment gains during the repayment period
- Paying interest that isn’t tax-deductible, unlike with a mortgage or student loans
- Having a lifetime limit based on your vested balance
- Paying taxes and an early withdrawal penalty if you separate from your employer and are unable to repay the loan balance by your tax filing deadline
4. Set up a 72(t) distribution plan
IRS Rule 72(t) allows you to take penalty-free withdrawals from a retirement account if you receive a series of substantially equal payments (SEPP) over your life expectancy according to an approved method. Figuring out the payment schedule can be complicated, so get help from a qualified tax professional to avoid potential taxes and penalties.
If you need ongoing income, a 72(t) can be a smart way to tap your retirement account early without penalty. However, once you begin taking payments, you must continue them for at least five years or until age 59.5, whichever is longer. In other words, if you start a 72(t) plan at age 50, you’d have to continue payments for 9.5 years.
To sum up, remember that a workplace retirement plan’s primary purpose is to provide retirement income. Accessing funds early should be considered a last resort because you reduce your portfolio and potential investment gains and may incur taxes and penalties.
Consult with a financial advisor or tax professional to discuss your situation and understand the implications of any early withdrawals from your retirement account.
