Borrowing From IRA

For many individuals, borrowing from IRA accounts can provide a short-term solution to cash flow problems. However, significant restrictions apply to these transactions and, if not followed exactly, IRA borrowing can create major tax disadvantages and interest penalties that may outweigh the potential short-term advantages of obtaining ready cash. Individuals can borrow from IRA accounts only once per year and only for sixty days at a time without facing potential interest penalties or tax consequences for the withdrawal.


IRA borrowing rules


Technically, borrowing from an IRA is not within the IRS rules set out for these accounts. However, the IRS does allow rollovers from one IRA account to another of the same type if certain conditions are met:
  • The money is replaced in a qualifying IRA account within sixty days or less
  • Only one such withdrawal can take place in any twelve-month period
  • The money can be returned to the same account or to another account of the same type, but not to a different type of account
Properly transacted, this rollover process can provide a substantial amount of cash on short notice; however, the entire amount must be replaced within sixty days to avoid severe financial repercussions to the IRA account and the account holder.


Applications


Generally, IRA borrowing is used to meet transient cash flow problems; for instance, it can provide valuable bridging finance while waiting for another loan or source of income to become available. For example, these funds might be used by an investor to take advantage of a sudden investment opportunity, but only if the account holder is certain that they can amass the funds from another source before the sixty-day grace period expires. While in some cases it may be advantageous to borrow from IRA holdings in order to achieve a larger financial goal, borrowing from IRA accounts can be risky and should not be taken lightly; failure to repay the full amount in time can create major financial repercussions and affect the tax-deferred status of the entire account.

Drawbacks


Before consumers decide to borrow from IRA accounts to meet short-term requirements, they should fully understand the results if the funds are not returned to a qualifying IRA within the sixty-day window. Borrowers should also note that the sixty days includes holidays and weekends as well as regular business days. If the funds are not returned within this time period, the IRA is subject to several negative consequences:
  • After sixty days, the money cannot be redeposited into the IRA account
  • The funds will be treated as a taxable distribution
  • For account holders under the age of 59 and 1/2 years, the withdrawal may be subject to an additional 10% tax penalty

Conclusions


The decision to withdraw from IRA accounts is a significant one and should not be made without careful consideration. However, if the funds can be returned in their entirety within sixty days, then withdrawing from an IRA can be a useful method for managing cash flow while maintaining a nest egg for retirement.
Tim Ord
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