5 Times When Borrowing Against an IRA is a Smart Idea

RETIREMENT - RETIREMENT PLANNING
You can avoid taxes and penalties for making early IRA withdrawals in these special circumstances.
Updated April 11, 2024
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If you’re learning how to save for retirement, you may occasionally have an immediate need for cash you’ve put aside. Specifically, you might wonder if you can withdraw money from the account balance in your individual retirement account (IRA).

While IRAs don’t allow you to take out loans the way some 401(k) and 403(b) retirement plans do, it is possible to access the cash in your IRAs.

One option is to simply withdraw the money and use it. However, the IRS requires that you deposit the money you borrowed into the same or a different IRA within 60 days (also known as a 60-day rollover period). Otherwise, you will have to pay income taxes and penalties on the withdrawal.

In addition, you can only make this type of withdrawal penalty- and tax-free once in a 12-month period regardless of how many IRA accounts you have.

Given the major caveats of borrowing money this way, it should be used carefully. However, there are a few scenarios where it could make sense as a sort of short-term loan. We’ll discuss some of those situations here.

Making a down payment on a home

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If you want to buy a home, you may have to make a down payment to qualify for a mortgage. You may not have to put the traditional 20% down, but you may have to put at least 3% down.

While 3% may not sound like much, 3% on a $300,000 house is $9,000. Even that amount can be a hurdle for many buyers.

Paying off high-interest debt

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High-interest debt can be a major financial burden. Payday loans and some personal loans come with interest rates that can trap people in never-ending debt cycles. Many credit cards can do the same.

Of course, you can pay down credit card balances with some of the best balance transfer cards, but they might be out of reach if you don’t have at least good credit.

Avoiding financial troubles

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Perhaps you’ve received a final notice from a collections agency, or you're months behind on mortgage payments. These things happen, in many cases, through no fault of your own. If you can address the issue head-on, you might be able to solve the problem before it gets worse.

Although an IRA withdrawal can be risky, it might be worth it if it helps you avoid losing your home.

Addressing medical needs

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According to the Kaiser Family Foundation, over 9% of adults owe more than $250 due to health care costs. What’s more, over half of those people owe more than $2,000, and some even owe more than $10,000.

Whether you have a new health issue that arises or you already have medical debt, an IRA withdrawal could make sense in this case. It’s never good to avoid or delay treatment because you’re worried about the costs.

Getting urgent home or auto repairs

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If your car or home needs repairs, you probably can’t ignore it just because it’s too expensive. These are basic amenities most of us can’t function without.

For example, a leaky roof could cause water damage, which only increases the cost of fixing the problem. If your car doesn’t run, you may be unable to commute to work, resulting in lost wages. Again, the problem just gets worse.

Traditional vs. Roth IRAs

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The IRS rules regarding penalties and taxes owed when making early withdrawals differ depending on whether the account you’re borrowing from is a traditional IRA or a Roth IRA.

With a traditional IRA, you will be forced to pay a 10% penalty and taxes on any early withdrawals, regardless of whether you are borrowing from your contributions or earnings. However, you are able to borrow early from your Roth IRA contributions (but not earnings) anytime and avoid IRA withdrawal taxes and penalties.

Qualified exceptions

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There are also some circumstances in which you can request an early distribution from either a traditional or Roth IRA account without having to pay a 10% penalty. You will still have to pay taxes, though. These are called qualified exceptions and include the following.

First home purchase

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You can withdraw up to $10,000 from your IRA, without penalty, to buy, build, or rebuild a home — provided that you are a first-time home buyer.

Higher education expenses

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You may be able to withdraw money from your IRA without penalty for qualifying education expenses, including tuition, fees, books, supplies, and equipment needed for enrollment. Students enrolled at least half-time may also use funds for room and board without incurring a penalty.

Unreimbursed medical expenses

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You can use your IRA withdrawal penalty-free to cover medical expenses you initially paid out-of-pocket, either because you didn’t have insurance or because your insurance didn’t cover them. Keep in mind this only applies to expenses that total over 7.5% of your adjusted gross income.

Health insurance premiums

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You can use withdrawn IRA funds to pay for health insurance premiums if you’ve been unemployed for at least 12 weeks. These funds can be used to pay for the premiums of your spouse and children as well.

Permanent disability

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The IRS will let you withdraw IRA funds without penalty to cover any expenses you want if you become disabled. In the event of your death, your beneficiaries can also withdraw your IRA funds without penalty.

Periodic payments

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The IRS will allow you to schedule regular IRA distributions with no penalty. You must withdraw the same amount, determined by the IRS’ pre-approved methods, each year for five years or until you turn age 59 ½, whichever comes first.

Advantages of withdrawing from an IRA

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The biggest benefit of withdrawing money from your IRA is having immediate access to cash. That cash might help you avoid situations where an expensive problem gets worse and could cost you more to resolve.

For instance, you wouldn’t want to get evicted or to have a medical problem go untreated because you couldn’t pay. Thus, withdrawing from an IRA can be considered damage control. You should avoid withdrawals when you can, but it could be worth doing as a last resort.

If you’re confident that you’ll be able to repay the full amount before the 60-day repayment period, you won’t face any taxes or penalties. Understanding how to balance your short- and long-term financial needs and goals is an important part of learning how to invest money.

What to consider before withdrawing from an IRA

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There are several things you should keep in mind when withdrawing from an IRA. First, the money generally must be deposited again within 60 days. If it isn’t and you’re younger than 59 1/2, you’ll pay a 10% early withdrawal penalty. Anything you withdraw from a traditional IRA will also be taxed as income.

Withdrawing money from your IRA could also prevent you from accruing compound interest on your retirement savings. If your personal finances don’t improve and you fail to redeposit the money, you could lose years of potential growth in your retirement funds.

Finally, you can only withdraw funds once per year for non-qualified exceptions, regardless of how many IRAs you have. That’s another reason to exhaust all other options before considering a withdrawal.

Bottom line

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If you find yourself in a difficult financial position and need cash quickly, an IRA withdrawal is one option to consider. However, the money must be deposited into the same or a different IRA within 60 days of the withdrawal. If you don’t return the money, you’ll have to pay taxes and penalties.

If you haven’t opened an IRA yet, it’s not too late to save for retirement. You can speak to a brokerage firm or financial advisor or read our guide on how to open an IRA.

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Author Details

Bob Haegele Bob Haegele is a seasoned personal finance writer, leveraging his bachelor's degree in information technology from Marquette University to dissect complex financial topics.

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