Can I Use My Retirement Plan if I Retire Because of Disability?

The IRS waives certain penalties for those with disabilities.

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Generally, you can access your retirement plan balances penalty free if you are forced to retire early because of disability. Rules on individual retirement accounts differ somewhat from rules for 401(k) plans, however, and you may have an income tax liability, depending on your circumstances.

Hardship Withdrawals

The IRS generally imposes a 10 percent penalty on withdrawals you make before reaching retirement age -- generally defined as age 59 1/2 for IRAs. But the IRS will waive the 10 percent penaltyfor IRAs -- but not income tax -- if one or more of certain hardships apply. Disability is among the hardships eligible for the waiver. Withdrawals to pay for medical insurance premiums also qualify for the waiver for IRAs. Employer-sponsored retirement plans vary in their hardship provisions, however.

401(k) Plans

Generally, you are free to take distributions from a 401(k) when you have left the service of your company -- though some plans will let you take out money before that in an "in-service withdrawal." The IRS will not charge you a penalty for early withdrawals if you are disabled or if you are over age 55 and have already retired. However, income tax still applies, and your plan sponsor will withhold 20 percent of any distributions you make and forward them to the IRS to pay income taxes. You can, however, roll your balance directly over into an IRA without any such withholding. The IRA will generally give you more investment choices and you will not be subject to the 20 percent withholding, though you will still have to pay income taxes. You may be prohibited from making further elective contributions to your 401(k) for a period of time, but if you have already retired, this consideration is moot.

403(b) Tax-Sheltered Annuity Plans

These plans are prevalent among nonprofit organization and educational institutions. The general rules are similar to 401(k) plans. Not every plan will authorize early distributions in the event of disability, but you can generally roll your balance over into an IRA and make withdrawals under IRA rules if your 403(b) doesn't authorize early payouts in the event of disability.

Section 457 Plans

If you are a municipal employee, you may have a Section 457 non-qualified deferred compensation plan. The law allows for distributions to meet an "immediate and heavy need" for money, including illness or injury. Disability normally qualifies under that criterion.

Roth Accounts

If you have a Roth IRA, or have contributed to a designated Roth account within a 401(k) or, if you're a federal employee, a thrift savings plan, and the money's been in the Roth account at least five years, growth in the IRA is generally tax-free. You can take income out of those plans on a penalty-free, tax-free basis if you have retired early due to disability.