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Can I Close an IRA Account Without Penalty?

Original post by Rocco Pendola of Demand Media

In 1974, Congress conceived IRAs, or Individual Retirement Accounts, as a way for people not covered by workplace plans to save for retirement and receive a tax deduction in the process. While retirement savings and tax breaks remain the primary reasons to own an IRA, the federal government extends leeway for individuals to use account proceeds for purposes other than retirement. Your account type and circumstances dictate whether or not you will face penalties when closing an IRA.

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Distinction

It's important to remember that you only face tax consequences and penalties when you take a distribution from an IRA. You do not have to close your account altogether. For instance, if you prefer to remove your IRA money from all investments and let it sit as cash, you can do this without officially closing your account. By selling the stocks, mutual funds and other investments you own, you have not taken a distribution. Until you receive proceeds from the account, it's not officially closed and you have not taken potentially taxable distributions.

Tax Consequences

If you request that your brokerage or other financial institution close your account, it will likely offer a general reminder that you may face tax consequences. As IRS Publication 590 explains, if you own a traditional IRA, the IRS taxes all proceeds removed from an account at your regular income tax rate, regardless of when you remove the money and for what reason. However, the IRS never taxes original contributions that you remove from a Roth IRA, but it sometimes taxes earnings on those contributions, depending on your situation.

The Penalty

It's important to realize that the above-mentioned possibility of regular income taxes on IRA proceeds occurs separately from the 10-percent tax penalty the IRS imposes on early withdrawals from an account. For example, if you close your IRA account and take the proceeds as a distribution prior to turning age 59-1/2, the IRS levies a 10-percent tax penalty, in addition to any regular income tax due, on the taxable portion of the distribution.

Exceptions

Depending on the type of account you have (traditional or Roth), the timing of the distribution and the reason you are closing your account to access your money, the IRS might exempt you from the 10-percent penalty. Consult Publication 590 for a complete list of the exclusions. As an example, the IRS does not charge the 10-percent penalty to IRA holders who become disabled and then close their account to access the proceeds.


                   

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About the Author

As a writer since 2002, Rocco Pendola has published numerous academic and popular articles in addition to working as a freelance grant writer and researcher. His work has appeared on SFGate and Planetizen and in the journals "Environment & Behavior" and "Health and Place." Pendola has a Bachelor of Arts in urban studies from San Francisco State University.


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