401(k) Early Withdrawals: How to Avoid IRS Penalties!

Chad Dickinson • February 27, 2025
If you're considering withdrawing money from your 401(k) retirement account, you may be in for a costly surprise when tax season rolls around. Many people don’t realize that early withdrawals come with penalties and tax consequences that can significantly impact their finances.

Before making a decision, watch this video for a quick breakdown of what you need to know:

The Hidden Costs of a 401(k) Withdrawal

A 401(k) withdrawal might seem like an easy way to get extra cash, but it can result in unexpected tax bills and penalties. Here’s what you need to consider before taking money out of your retirement savings:

1. Early Withdrawal Penalty

If you're under 59½, the IRS typically imposes a 10% penalty on your withdrawal in addition to regular income tax. That means:



  • A $20,000 withdrawal could cost you an extra $2,000 in penalties, plus additional taxes!
  • Certain exceptions apply (such as disability or medical expenses), but most withdrawals are penalized.


2. It Increases Your Taxable Income

Withdrawn funds count as taxable income, which means:



  • Your income bracket could go up, making you owe more in taxes.
  • Example: If you’re already earning $60,000 per year and withdraw $20,000, your taxable income jumps to $80,000, possibly pushing you into a higher tax bracket.


3. Withholding Taxes Matter

Many people forget to withhold taxes when taking a 401(k) distribution, leading to a surprise tax bill later.



  • Federal tax withholding: Usually 20% is withheld, but this might not cover everything you owe.
  • State tax withholding: If your state has income tax, you need to withhold for that too!
  • No withholding? You may need to make estimated tax payments to avoid IRS penalties.


4. Understanding Your 1099-R Form

After taking a 401(k) withdrawal, your financial institution will send you IRS Form 1099-R, which shows:


Box 1: Total amount withdrawn
Box 2: Taxable portion of the withdrawal
Box 4: Federal tax withheld
Box 7: Distribution code (shows if exceptions apply)
Box 14: State tax withheld



Knowing how to read this form is crucial when preparing your taxes!

Alternatives to Cashing Out Your 401(k)

If possible, avoid withdrawing your 401(k) early. Instead, consider:



  • 401(k) Loans – Borrow from your retirement instead of withdrawing. You repay the loan with interest but avoid penalties.
  • Hardship Withdrawals – Some circumstances (medical bills, disability) may qualify for penalty-free withdrawals.
  • Rollover to an IRA – If you need flexibility, consider rolling over your funds into an IRA for tax advantages.

Final Thoughts: Plan Before You Withdraw!

A 401(k) withdrawal may seem like a quick fix, but it can cost you thousands in penalties and taxes if not planned correctly.


Need help with your tax strategy? Contact us today for expert guidance!

Tax Tip: Donating After A Disaster
By Chad Dickinson September 12, 2025
Learn how to safely donate after a disaster, avoid charity scams, and make sure your contributions are tax deductible with these IRS-backed tips.
Arch Tax Logo
By Chad Dickinson September 5, 2025
Wondering how long an IRS Offer in Compromise takes? Learn the step-by-step OIC timeline, what slows it down, and how to speed up your chances of approval.
Escape your ex's IRS debt
By Chad Dickinson August 29, 2025
Learn how Innocent Spouse Relief can erase IRS debt caused by your spouse.
Arch Tax Logo
By Chad Dickinson August 20, 2025
Learn how to talk to the IRS with confidence. Discover what to say, what to avoid, and how a tax attorney can protect your rights and negotiate on your behalf.
By Chad Dickinson August 15, 2025
You trust your tax preparer with some of your most sensitive personal and financial information. But what happens if scammers target them—and end up with your data? Unfortunately, there’s a real scam going around that does exactly that. Here’s how it works and how you can protect yourself. The Scam in Action Criminals send fake emails to tax preparers, pretending to be from the tax software company the preparer uses. These emails ask the preparer to “verify” their Electronic Filing Identification Number (EFIN) —a number the IRS uses to identify legitimate tax businesses. The email tells them to send the EFIN information by fax. If the preparer falls for it, scammers can use that EFIN to file fake tax returns in clients’ names—claiming fraudulent refunds. Why This Matters to You If your preparer’s EFIN is stolen, scammers could: File a fake return using your personal information Claim your refund before you do Cause IRS delays and red flags on your account Make it harder and slower for you to get your real refund Signs of Trouble Here are a few warning signs that could mean your personal tax information was compromised: You try to e-file and the IRS says a return has already been filed under your name You get a letter from the IRS about a tax return you didn’t file You receive unexpected tax documents in the mail What You Can Do You can’t stop scammers from targeting tax professionals, but you can take steps to protect yourself: Ask your preparer how they protect client data — A good tax pro will use secure portals and never send sensitive info over unencrypted email. Consider getting an IRS Identity Protection PIN (IP PIN) — This is a 6-digit number that prevents anyone from filing a return in your name without it. Act quickly if you suspect fraud — Contact your tax preparer, report it to the IRS, and follow their steps to secure your account. Bottom Line The EFIN scam targets tax preparers, but it’s taxpayers who can suffer the consequences. By choosing a preparer who takes security seriously—and staying alert to signs of fraud—you can greatly reduce your risk. If you think your information may have been compromised or want help setting up extra IRS protections, contact Arch Tax today . We’ll help you secure your account and make sure your tax return is filed safely and accurately.
By Chad Dickinson August 8, 2025
If you filed for an extension, your new tax deadline is October 15, 2025 . That gives you a little extra time — but not much — to get everything in order. Many taxpayers in your shoes consider hiring a professional to help finish the return. But here’s the catch: Not all tax preparers are created equal.  Some are helpful pros. Others? Not so much. Choose the wrong one, and you could risk your refund — or worse, find yourself in a mess with the IRS. Here are the biggest red flags to watch out for when choosing a tax preparer: 1. They Promise Bigger Refunds Than Everyone Else If someone claims they can get you a “huge refund” before they’ve even looked at your documents, that’s a giant red flag. A legitimate preparer doesn’t make promises until they’ve seen the facts. 2. They Want Your Refund Deposited into Their Bank Account Never agree to this. Your refund should be deposited directly into your bank account — not theirs. This is a shady tactic some preparers use to skim fees or delay payments. 3. They Won’t Sign the Return By law, paid preparers must sign your return and include their Preparer Tax Identification Number (PTIN) . If they refuse? Walk away. 4. They Don’t Ask for Records or Receipts Good tax pros ask a lot of questions and request documentation. If someone is willing to prepare your return based only on a pay stub or vague guesses, that’s a problem. 5. They Base Their Fee on Your Refund Size A preparer who charges a percentage of your refund has a financial incentive to fudge the numbers. Reputable pros charge flat or hourly fees — not a cut of your return. 6. They Can’t Be Reached After Tax Season What happens if the IRS sends you a notice in December? Make sure you’re working with someone who’s available year-round — not just from January to April. What You Should Look For A valid PTIN IRS e-file access Transparency in pricing Willingness to review the return with you Available to answer questions even after October Final Tip: You Are Still Responsible No matter who prepares your return, you are legally responsible for what gets filed. Don’t sign a return you haven’t reviewed — and never sign a blank one. Need Help You Can Trust? At Arch Tax, we pride ourselves on transparency , ethics , and experience . We’ve helped hundreds of clients meet their tax deadlines — without the red flags. Let’s make sure your return gets filed right. Schedule a free consultation today!
What happens if i get audited
By Chad Dickinson July 31, 2025
Worried about getting audited? Learn what happens if the IRS audits you, why it happens, and how Arch Tax can guide you every step of the way—with expert support and real results.
Arch Tax
By Chad Dickinson July 25, 2025
The October 15th tax extension deadline is almost here. Learn key filing tips, payment options, and how to get tax relief if you owe. Don’t wait—get expert help today.
The One Big Beautiful Bill Act
By Chad Dickinson July 18, 2025
The One Big Beautiful Bill Act introduces new IRS deductions starting in 2025—covering tips, overtime, car loan interest, and seniors. Learn how to claim up to $25,000 in tax breaks.
Arch Tax Logo
By Chad Dickinson July 11, 2025
Discover key insights from the 2024 IRS Research Bulletin, including smarter audits, data-driven tax enforcement, and efforts to simplify filing. Stay ahead of upcoming changes in tax administration.