A recent decision by the U.S. Tax Court serves as a reminder that if an individual elects to take funds from his or her tax-favored retirement account before he or she attains the age of 59½, the distribution from the account to him or her is not only subject to federal income tax, as are all distributions from retirement accounts, but is also subject to the 10% additional tax that is imposed upon early withdrawals from retirement accounts, such as individual retirement accounts ("IRAs"). In Lashua v. Commissioner, T.C. Memo. 2020-151, 2020 WL 6559172 (Nov. 9, 2020), the Tax Court reminded us that if we decide to withdraw funds from an otherwise tax-deferred retirement account before we reach the age of 59½, we should be prepared, under 26 U.S.C. § 61(a), to report the distribution as "gross income" on our individual or joint federal income tax return and, pursuant to 26 U.S.C. § 72(t)(1), to pay an "additional tax" equal to 10% of the funds that were withdrawn.
There are noteworthy exceptions to the 10% additional tax on early withdrawals from retirement plans. The 10% additional tax on early distributions from qualified retirement plans
shall not apply to . . . [d]istributions which are
- made on or after the date on which the employee attains age 59½,
- made to a beneficiary (or to the estate of the employee) on or after the death of the employee,
- attributable to the employee's being disabled within the meaning of subsection (m)(7),
- part of a series of substantially equal periodic payments (not less frequently than annually) made for the life (or life expectancy) of the employee or the joint lives (or joint life expectancies) of such employee and his designated beneficiary,
- made to an employee after separation from service after attainment of age 55,
- dividends paid with respect to stock of a corporation which are described in section 404(k),
- made on account of a levy under section 6331 on the qualified retirement plan, or (viii) payments under a phased retirement annuity under section 8366a(a)(5) or 8412a(a)(5) of title 5, United States Code, or a composite retirement annuity under section 8366a(a)(1) or 8412a(a)(1) of such title.
26 U.S.C. § 72(t)(2)(A). Nor does the 10% additional tax apply to the following early distributions from a retirement account: qualified medical expenses, payments to alternate payees pursuant to qualified domestic relations orders, distributions to unemployed individuals for health insurance premiums, distributions from individual retirement plans for higher education expenses, distributions from certain plans for first home purchases, distributions from retirement plans to individuals called to active duty, and distributions from retirement plans in case of birth of child or adoption. Id. § 72(t)(2)(B)-(H). Finally, "[s]ection 72(t) of the Internal Revenue Code of 1986 [subsec. (t) of this section] shall not apply to any coronavirus-related distribution." Coronavirus Aid, Relief, and Economic Security Act (the "CARES Act"), Pub. L. No. 116-136, Div. A, Title II, § 2202, 134 Stat. 340 (Mar. 27, 2020) (emphasis added); see also Guidance for Coronavirus-Related Distributions & Loans from Ret. Plans Under the Cares Act, IRS Notice 2020-50, 2020-28 I.R.B. 35 (2020). The taxpayer bears the burden of proving that one of the exceptions to the 10% additional tax on early withdrawals from retirement accounts applies in his or her particular case. Lashua, T.C. Memo. 2020-151, 2020 WL 6559172, at *2 (citing El v. Comm'r, 144 T.C. 140, 148-149 (2015)).
As a further measure of relief, the CARES Act provides that if a taxpayer makes an early withdrawal from his or her qualified retirement account, he or she can report the withdrawal in his or her gross income over a three-year period, beginning with the taxable year of the distribution from the account. Pub. L. No. 116-136, Div. A, Title II, § 2202, 134 Stat. 340.