When you withdraw money from a 401-K plan or any retirement plan before you reach age 59 1/2, you are assessed a penalty for early withdrawal in addition to having to pay income tax on the money withdrawn.  This creates a double tax liability for all early withdrawals.  This is the primary reason you should never dip into your retirement plan early unless it is a dire emergency.

 

 

When you make the withdrawal, you can and should request that at least twenty (20%) to twenty-five (25%) per cent of the amount withdrawn be withheld by the plan administrator at the time of withdrawal and paid to the IRS as estimated tax.  Your administrator can help you determine the amount to be withheld.  This is similar to the withholdings each week or month from your paycheck.  If you do this, you will not have such a huge liability at tax time.

If you fail to have an appropriate amount withheld for taxes at the time of withdrawal and cannot pay the tax when due, you can request an Installment Agreement when you file your tax return.  You may also be able to file an appeal requesting to abate the penalties involved, due to your ignorance of the tax problem.