Roth IRA Principal Withdrawals
Do you owe taxes on Roth IRA principal withdrawals?
Despite what you may have heard elsewhere, the answer is no.
Withdrawing your original contributions is always a tax-free, penalty-free event.
Only early withdrawals of earnings, interest, capital gains, rollover funds, or conversion funds from your Roth IRA will trigger the dreaded 10% early withdrawal penalty and/or income taxes.
So what's considered an early withdrawal?
As a general rule, the following conditions must be met - otherwise, you're making an early withdrawal:
The first is self-explanatory, and the latter is known as the 5 year rule.
But those two conditions only apply to you if you're making a non-principal contribution withdrawal. Roth IRA principal withdrawals don't need to meet those rule requirements.
Annual Principal Contributions
So what are Roth IRA principal withdrawals? And why are they tax-free?
A principal withdrawal is simply a distribution of part or all of your total annual Roth IRA contributions. By definition, this doesn't include interest, capital gains, dividends, or converted funds.
For instance, let's say you make ten annual $5,000 contributions to your Roth IRA. At the end of those 10 years, you have $200,000 in your account.
Of the $200,000 balance, $50,000 is the direct result of your ten $5,000 annual contributions.
This $50,000 is your Roth IRA principal - it's made up entirely of your original contributions.
And unlike your annual contributions to your 401k or your Traditional IRA, Roth IRA principal withdrawals are always tax-free and penalty-free!
Roth IRA Principal Contribution Withdrawals
So why is it that Roth IRA principal withdrawals are always tax-free and penalty-free while other retirement accounts tax and penalize early withdrawals?
Well, unlike traditional retirement accounts, you fund your Roth IRA with after-tax dollars.
This means you paid income tax upfront before you made your contribution. In contrast, most retirement accounts are tax deductible, meaning you reduce your taxable income and make contributions with pre-tax dollars.
Since you already paid income taxes on your Roth IRA contributions, the IRS doesn't tax you a second time if you withdraw them.
However, any earnings your receive as a result of investing your Roth IRA contributions have NOT been taxed, and they'll continue to grow tax-free if you leave them alone until after you reach age 59 ½.
But if you withdraw them early, then the IRS will likely impose income taxes as well as a 10% early withdrawal penalty.
For example, let's say you're 32 years old, and you have a Roth IRA account worth $60,000. You're also in the 20% income tax bracket.
Your account breaks down as follows:
If you withdraw $25,000, then you're making a tax-free Roth IRA principal withdrawal, and you don't have to worry about taxes or penalties.
But if you withdraw an additional $15,000, you're withdrawing conversion funds early, and you'll owe $3,000 in income taxes (20% of $15,000) as well as $1,500 from the 10% early withdrawal penalty.
Finally, if you withdraw the remaining $20,000, you're withdrawing investment gains early, and you'll owe an additional $4,000 in income taxes (20% of $20,000) as well as $2,000 from the 10% early withdrawal penalty.
Regardless of what anyone else tells you...
Roth IRA principal withdrawals are always tax-free and penalty-free.
Since you're withdrawing your original contributions made with after-tax dollars from the income you generated, the IRS does not impose penalties on you for withdrawing those same funds.
If you're on the fence as to whether or not you should contribute to a Roth IRA or a traditional retirement account, then this unique feature provides you with an advantage.
Since your annual contributions can be withdraw tax free for any reason at any time, they double as a sort of emergency fund in times of financial disaster.
So if, for whatever reason, you need to withdraw your original Roth IRA contributions, feel free to do so without worrying about taxes or penalties.
Read 5 Reasons Why I Love My Roth IRA, our part in the Good Financial Cents Roth IRA Movement!
Our family fully funds our Roth IRA with this website. Learn how you can do it too.
Are you confused or frustrated by the stock market? Learn how to build real wealth selecting individual stocks for your Roth IRA...
Read more about what's new on the Roth IRA blog.
Hi, I'm Britt, and this is my wife, Jen. Welcome to our Roth IRA information website!
This is our humble attempt to turn a passion for personal finance into the Web's #1 resource for Roth IRA information. But, believe it or not, this site is more than just a hobby. It's a real business that provides a stable and steady stream of income for our family. In fact, because of this site, Jen is able to be a full-time stay-at-home mom and spend more time with our daughter, Samantha.
But you want to know the best part? ...You can do the same thing! Anyone with a hobby or a passion (even with no previous experience building a website) can create a profitable site that generates extra income.
If you're tired of solely depending on your job(s) for family income, click here now and learn why our income is increasing despite the financial crisis and how we're making our dreams come true.
Search This Site
Roth IRA Basics
More About Roth IRAs
Roth IRA Resources
About Your Roth IRA
Like Us On Facebook
Follow Us On Twitter
[?] Subscribe To
The information contained in Your Roth IRA is for general information purposes only and does not constitute professional financial advice. Please contact an independent financial professional when seeking advice regarding your specific financial situation.
Our family started this site as a labor of love in February 2009, a few months after our daughter was born.
Thank you for helping it become one of the most visited Roth IRA information sites.
We hope you find what you're looking for and wish you much continued success in your retirement planning!