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I receive Social Security disability benefits. Can I withdraw funds from my 401(k) or IRA without penalty?

Possibly. It depends on how your disability is classified by the Internal Revenue Service (IRS), which has different criteria than the Social Security Administration (SSA).

Typically, if you take money from a 401(k) or traditional individual retirement account (IRA) before reaching age 59½, you pay a 10 percent penalty on the amount withdrawn, in addition to regular income taxes. That’s because these types of accounts are tax-deferred — the money in them is not taxed coming in, only going out — and intended for use in your retirement years. (Roth IRAs are treated differently.)

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The IRS allows exemptions for some younger account holders. For example, you may not owe the 10 percent penalty if you are withdrawing the money to buy, build or renovate a first home, or for unreimbursed medical expenses that exceed 7.5 percent of your adjusted gross income.

Another exception is for people who experience what the IRS calls total and permanent disability. But not everyone who receives Social Security Disability Insurance (SSDI) or Supplemental Security Income (SSI) — the two disability benefits managed by the SSA — meets the IRS standard.

Different definitions of disability

To receive Social Security disability benefits, you must have a medical condition that keeps you from taking part in “substantial gainful activity” and that is expected to last at least one year or end in death. Substantial gainful activity is work that brings in more than a specified amount of income; for 2023, the cap is $1,470 a month for most disabled beneficiaries.

Social Security further classifies disabilities based on your prospects for recovery, with the following designations: medical improvement expected, medical improvement possible and medical improvement not expected. These categories determine how frequently the SSA will review your condition to see if you still qualify for benefits.

To qualify for penalty-free early withdrawals from a traditional IRA or 401(k), your disability must be “total and permanent,” as defined by the IRS — meaning that your physical or mental condition leaves you unable to do any substantial work and will be fatal or, in the tax agency’s terms, “of long, continued and indefinite duration.”

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That means not everyone collecting SSDI or SSI benefits is eligible for penalty-free withdrawals from a retirement account. For example, someone with the SSA classification medical improvement expected would be less likely to fit the IRS’ definition than someone classified as medical improvement not expected.

To claim a disability exemption to the early-withdrawal penalty, complete IRS Form 5329 and file it with your federal taxes.

Keep in mind

  • The IRS won’t take your word for it. To bypass the 10 percent penalty, you’ll need to submit a written statement from a doctor confirming that your condition is terminal or will last indefinitely.
  • Regardless of your age or condition, there is no penalty for withdrawing the money you contribute to a Roth IRA, which is taxed before going into the account. The penalty does apply to withdrawals from the accumulated earnings on your Roth unless the account is at least five years old and you are 59½ or older, disabled or meet one of the other IRS exceptions.

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