Florida 2-15 Life, Health and Variable Annuity AgentGeneral Knowledge of Life InsuranceMedium
A client, aged 55, needs to withdraw funds from their Traditional IRA to pay for qualified higher education expenses for their child. What is the tax implication of this withdrawal?
- AThe withdrawal is subject to ordinary income tax, but the 10% early withdrawal penalty is waived.
- BThe withdrawal is subject to the 10% early withdrawal penalty, but not ordinary income tax.
- CThe withdrawal is subject to ordinary income tax and the 10% early withdrawal penalty.
- DThe withdrawal is tax-free and penalty-free.
Show answer & explanationAnswer & explanation
Correct answer: A. The withdrawal is subject to ordinary income tax, but the 10% early withdrawal penalty is waived.
Withdrawals from a Traditional IRA are generally subject to ordinary income tax, as contributions were often tax-deductible. However, for qualified higher education expenses, the 10% early withdrawal penalty is waived, even if the account holder is under age 59½.
Why the other options are wrong
- B. The withdrawal is always subject to ordinary income tax if contributions were pre-tax, and only the penalty is waived.
- C. The 10% early withdrawal penalty is waived for qualified higher education expenses.
- D. The withdrawal is not tax-free, as it's from a Traditional IRA where contributions were pre-tax or tax-deductible.
Traditional IRA Early Withdrawal for Higher Education
Withdrawals from a Traditional IRA before age 59½ for qualified higher education expenses are subject to ordinary income tax but are exempt from the 10% early withdrawal penalty.
- Withdrawals are taxable as ordinary income
- 10% early withdrawal penalty is waived
- Funds must be used for qualified higher education expenses
- Applies to the account owner, spouse, child, or grandchild
Memory trick: Early IRA cash: usually penalties, but some 'life moments' get a pass.