Now that we have covered how the 72(t) plan can save you from the early withdrawal penalty, let’s discuss other ways to become exempt from the penalty. If you are a first-time home buyer, you will be exempt from the penalty. If you are withdrawing the money for educational expenses, the penalty will not be incurred. 

As long as certain conditions are met, you will not incur the penalty if you use the money for medical insurance. If the owner of the account is younger than 59 1/2, and they take a distribution based on one of the mentioned expenses, he or she will not be subject to the 10% early withdrawal charge, as long as you adhere to IRA withdrawal rules.

When an investor opens a 72(t) plan, they are not allowed to make any modifications to the plan. However, a recent ruling in the U.S. Tax Court may change the current flexibility IRA owners now have. 

The Court ruled that a particular 72(t) plan was not modified when the owner of the IRA withdrew additional distributions for education expenses. When the owner did this, the IRS sought a 10% early withdrawal penalty, based on IRA withdrawal rules, but the Court overruled this and ruled in favor of the IRA holder. 

In the future, this ruling may aid other IRA owners who are in need of funds for specific purposes. As of now, there is no way for us to know if the IRS will follow the Court’s ruling in other cases.

If you are younger than 59 1/2, the 72(t) plan can be a huge benefit if you need to access the funds in your IRA without incurring the 10% penalty that is incurred for early withdrawing from the account. 

If the owner of the IRA knows that they will need to access the money in their IRA account, they can set up a 72(t) payment plan which will eliminate the penalty associated with early withdrawal. A 72(t) plan can be used with an IRA, 401(k), TSA, 403(b) and 457 plans.

There are three methods used by the IRS to determine payment plans for a 72(t). These include the RMD, required distribution method, the annuity factor method and the amortization method.

These methods are calculated in the same manner as they are if the owner were 70 1/2. Basically, the RMD calculation involves the account balance and the owner’s age. This method produces different amounts of payout each year.

The other two methods used will have equal payments. All payments using these three methods are required to continue for a minimum of 5 years, or until the account holder reaches age 59 1/2. As long as the rules are followed, the account owner will not be subject to the 10% penalty.

An important thing to remember is that in order for individuals to qualify for the 10% penalty exception, they cannot change the account balance. 

They can continue to make distributions that are required but they cannot add funds or take any distributions that will exceed the calculated amount of the 72(t) plan. If the owner of the account is under age 59 1/2, they will be subject to the 10% penalty. They will also incur interest.

If you are considering Retirement Planning, call for a free consultation today.