Had early 401k withdrawal. Looking for tax stratagies to lessen penalties at tax time.

[vender]

This month my wife had an emergency and cashed out her entire 401k at age 49. (70K total, 50K after fees and withholdings) We file together. Is there anything we can do or be doing prior to tax time to lessen additional fees and penalties?

[VolvoGirl]

I think you have 60 days to replace it or some of it.  But that might just be for IRAs.  But you might be stuck.  You will pay ordinary income tax on the gross amount and it will push you into a higher tax bracket.  Plus the 10% early withdrawal penalty.  Plus state taxes.  You can lose like up to 50% of it to taxes.  

There is an exception to the early withdrawal penalty for Medical.  Exceptions for Early Distributions from a Qualified Retirement Plan such as a 401(k) or 403(b) plan.  See Pub 575 page 35
<a rel="nofollow" target="_blank" href="https://www.irs.gov/pub/irs-pdf/p575.pdf">https://www.irs.gov/pub/irs-pdf/p575.pdf</a>
 
..Distributions upon the death or disability of the plan participant.
..You were age 55 or over in the year you retired or left your job. (50 for qualified public safety employees)
..You received the distribution as part of "substantially equal payments" over your lifetime.
..You paid for medical expenses exceeding 10% of your adjusted gross income.
..The distributions were required by a divorce decree or separation agreement ("qualified domestic relations court order"),

[SweetieJean]

<a rel="nofollow" target="_blank" href="https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-tax-on-early-distri...>

[Opus 17]

Now that you have realized the income, there is very little you can practically do to reduce your taxes. You have 60 days to replace the money in the same 401(k), or to roll it over into a private IRA.  If you can't roll it all over, the  more you roll over into the IRA, the lower your income tax and penalties will be.

You may be able to each contribute up to $5500 in a new IRA, depending on your eligibility.

 You can make charitable contributions, but then of course, you won't have the money yourself to spend. In fact most of the strategies to reduce tax in your situation require that you spend at least two dollars to save one dollar in taxes and penalties. You either need to have massive medical bills, or make a large contribution to charity, or put the money away in an untouchable IRA.

 If you needed access to some of the money, your best option would have been to roll over the entire amount into an IRA, and then only withdraw the minimum that you need for your emergency. That way you would only have been taxed on the minimum amount that you need to withdraw, instead of being taxed on all of it. 

[Opus 17]

And, you will get taxed on the entire withdrawal of 70 K. You probably had withholding that accounts for the difference in what you actually received. You will get credit for that withholding on your tax return, and any additional amount that you owe will be due at tax time.