IRAs and 401(k)s allow you to make tax-free contributions for retirement investing. As long as your money sits accumulating in the account until retirement age, there's no tax, no matter how much it earns. When you start taking the money out, it becomes taxable. The Roth IRA is an exception, as withdrawals in retirement aren't considered taxable income.
Withdrawing from a traditional retirement -- which is funded with pre-tax contributions -- account before you turn 59 1/2 will cost you. You can take early disbursements from a traditional IRA -- 401(k)s don't usually allow it -- but you pay income tax plus a 10 percent penalty. There's no tax on Roth contributions, which are made with after-tax money, but if you tap the earnings early, you pay. If you qualify for a hardship IRA withdrawal -- you have massive medical bills, for instance -- you pay income tax, but no penalty. If your 401(k), 403(b) or similar plan allows hardship withdrawals, the same tax rules apply.
Once you turn 59 1/2, you pay income tax, but no penalty, on any income you withdraw that year from a traditional IRA or 401(k). You report the income on your Form 1040. If you made after-tax contributions to your IRA, you report the disbursement but you don't pay tax on that portion of the account. Your account manager will send you and the IRS copies of a Form 1099 showing the total withdrawals and how much was taxable.
At age 70 1/2, as of publication, the rules change again. Except for Roth accounts, you have to take a required minimum distribution from your account every year. You figure your life-expectancy using the the IRS tables in Publication 590 and divide that into your account. If you have 30 years to go and a $300,000 account, say, you must withdraw at least $10,000 for the year. If you only withdraw $8,000, you would pay a 50 percent tax on the rest of the RMD that you did not take -- which would be a $1,000 tax bite.
If you have multiple retirement accounts, you figure the RMD for each account separately. With IRAs, you can add the amounts together, then withdraw the total from a single account. If you have a 401(k) or 457(b), you must take the RMD out of each account separately. If you have one IRA stuffed with after-tax money, you can't simply use that money to take tax-free withdrawals. If your total IRA assets include, say, 35 percent in after-tax dollars, 35 percent of your year's IRA withdrawals are tax-free.