Roth IRA Blunders

While Roth IRAs can be a great investment tool, they come with a special rule: you can withdraw the amount you have contributed at any time penalty-free and tax-free.  The catch is that you must have proof of how much you have contributed over the years. 

If there is any possibility you need to tap into your account before 59 ½, you need to pay attention because any amount you take out over and above what you have contributed is subject to income tax plus a ten percent penalty.  “If you don’t know what your contributions were, you don’t know what’s taxable and what isn’t.”

The lesson is to refrain from purging your taxes without retrieving your old 5498 forms.  These are the forms that your IRA custodian sends to the IRS each year you make an IRA contribution. 

Although you might think you will never need to take money out, you never know what could happen later in life.  Remember that raiding a retirement account should be a last resort.  You are losing tax-free compounding on the amount you withdraw, and you can’t replace the money in the account.  Instead, you must start fresh with future annual contributions. 

See Ashlea Ebeling, The Roth IRA Mistake, Forbes, May 27, 2014.