I wasn't quite sure if the 10% penalty was for my entire income for the year or just what I am getting refunded. Some insight on this would be helpful and yes, I'm under 59 1/2.
The 10% early withdrawal penalty would be on the taxable amount of the retirement income that you receive. The taxable amount may be lower than the distribution if you made after-tax contributions into the plan while you were working.
The taxable amount isn't impacted by taxes withheld on the distribution, if that's what you mean.
If you remove $10,000 from the account and withhold $3000 for tax, your 10% penalty is on $10,000. If you made $500 in after tax contributions, your taxable amount would be $9500 instead of $10,000. The amount of the check after withholding is never relevant in taxation, just like its not relevant when you get a W2. Your W2 income subject to tax is not reduced by any taxes withheld.