Can I Borrow Against My IRA?

It is not possible to directly “borrow” against an Individual Retirement Account (IRA). Unlike some employer-sponsored retirement plans, such as a 401(k), IRAs do not permit loans to the account holder. Understanding the specific regulations and limited methods for accessing IRA funds without incurring significant tax consequences is crucial for sound financial planning.

Understanding IRA Access Rules

Direct borrowing from an IRA is prohibited under Internal Revenue Service (IRS) regulations. The IRS considers certain dealings between an IRA and its owner, or other “disqualified persons,” as “prohibited transactions.” These include borrowing money from the IRA or using it as security for a loan. Engaging in such a transaction can have severe tax consequences, potentially causing the IRA to lose its tax-deferred status and its entire value to be treated as a taxable distribution.

An IRA distribution is a withdrawal of cash or assets from the account. When funds are taken from a traditional IRA before the account holder reaches age 59½, these amounts are subject to ordinary income tax. An early withdrawal penalty of 10% also applies to the distributed amount.

For example, if an individual under age 59½ takes a $10,000 distribution from a traditional IRA, that amount would be added to their taxable income for the year. An additional $1,000 penalty would apply.

The 60-Day Rollover Exception

While direct loans are not allowed, the 60-day rollover rule offers a temporary mechanism that can resemble borrowing from an IRA. This rule is not a loan, but rather a short-term holding of funds intended for re-deposit into another qualified retirement account. An individual who receives a distribution directly from an IRA has 60 days to deposit all or part of it into another IRA or an eligible retirement plan. If the funds are re-deposited within this strict 60-day timeframe, the distribution is not considered taxable income and avoids the early withdrawal penalty.

A key aspect of an indirect IRA-to-IRA rollover is the “once-per-year” rule. This rule limits an individual to only one indirect rollover from any of their IRAs to another IRA within any 12-month period, regardless of how many IRAs they own. Failing to complete the re-deposit within the 60-day window, or violating the once-per-year rule, results in the withdrawn amount being treated as a taxable distribution subject to income tax and, if applicable, the 10% early withdrawal penalty.

Additionally, if funds are distributed directly to the IRA owner, the financial institution holding the IRA is required to withhold 20% for federal income tax. To successfully complete the rollover and avoid taxation on the full amount, the individual must deposit the entire original distribution amount into the new retirement account, including the 20% that was withheld. The individual would then need to use other funds to make up for the withheld amount, and recover the withheld taxes when filing their federal income tax return.

Circumstances for Penalty-Free Withdrawals

The IRS provides specific exceptions that allow individuals to take distributions from an IRA before age 59½ without incurring the additional 10% early withdrawal penalty. While the penalty is waived in these situations, the distributions are still subject to ordinary income tax.

One common exception is for qualified higher education expenses. This includes tuition, fees, books, supplies, and equipment required for enrollment or attendance at an eligible educational institution, for the IRA owner, their spouse, children, or grandchildren.

Another exception allows for a penalty-free withdrawal of up to $10,000 over a lifetime for a first-time home purchase. To qualify, the funds must be used within 120 days for acquisition costs, and the individual (and spouse, if applicable) must not have owned a main home in the preceding two years.

Distributions used for unreimbursed medical expenses exceeding 7.5% of the taxpayer’s adjusted gross income (AGI) are exempt from the penalty. Withdrawals due to total and permanent disability of the IRA owner are also penalty-free. This requires certification that the individual cannot engage in any substantial gainful activity due to a physical or mental condition expected to result in death or be of long, indefinite duration.

Another method is through substantially equal periodic payments (SEPP), also known as Rule 72(t) distributions. This involves taking a series of payments calculated based on life expectancy, which must continue for at least five years or until age 59½, whichever is longer.

Penalty-free withdrawals are also permitted for health insurance premiums if the IRA owner has received unemployment compensation for 12 consecutive weeks. Qualified reservist distributions, for military reservists called to active duty for at least 180 days, are another exception. Individuals can withdraw up to $5,000 per parent, per child, for qualified birth or adoption expenses within one year of the event, without incurring the 10% penalty.