Texas cashing out a 401k to make a down payment on a loan. What is the percentage taken out by the IRS immediately? Also will the down payment be tax deductible?

[ssmyth]

Also we have an installment agreement with the IRS will they take that immediately from the monies of the 401K or will we still be allowed to continue with the installment agreement and retain all of the monies cashed out in the 401K? 

[TomD8 · Accepted solution]

Unless this is a Roth 401k, your plan administrator will most likely withhold 20% of your cash-out amount for federal taxes.  If you are under age 59 1/2, you will also be subject to a 10% early withdrawal penalty, unless you meet one of the exceptions listed in this IRS reference: https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-tax-on-early-distri...

A condition of an IRS installment agreement is that the IRS will automatically apply any refund due to you against taxes you owe.

A down payment on a loan is not tax deductible.

A final consideration is that you will receive a 1099-R at the end of the tax year showing the amount of the 401k distribution as taxable income (the 1099-R will also show any taxes withheld).  This added income sometimes pushes the taxpayer into a higher tax bracket.

[VolvoGirl]

The tax withholding they will take out of the 401K withdrawal will not go towards your installment agreement or any past due amounts.  The withholding is like withholding from your paychecks and will be credited on your 2016 return we do next year.  Then if you end up getting a refund on your 2016 tax return the IRS will keep the refund.

[SweetieJean]

What do you mean  by "down payment on a loan."  A lump sum payment on an already existing loan? What type of loan?

[VolvoGirl]

Probably buying a house with a mortgage.

[SweetieJean]

If so, no exception to the 10% penalty, since it's a 401(k).
<a rel="nofollow" target="_blank" href="https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-tax-on-early-distri...>

[SweetieJean]

But there will be an exception if OP left employment at age 55+.

[ssmyth]

It will go towards a down payment for a home.

[SweetieJean]

@ssmyth   You said Texas in your Q. If you really meant Taxes, and you live in a state other than Texas, also consider your state taxes.  Federal + State + 10% Penalty could easily add up to 35-40% or more of the distribution.