Rhode Island Life Insurance Practice Exam

What penalty tax is applied to premature IRA distributions?

1. 5%

2. 10%

3. 15%

4. 20%

The correct answer is: 10%

The penalty tax applied to premature IRA distributions is 10%. This means that if an individual withdraws money from their Individual Retirement Account (IRA) before they reach the age of 59½, they are subject to an additional tax on that distribution, which is aimed at discouraging early withdrawals and encouraging the saving of funds for retirement. This 10% penalty is in addition to any regular income tax that may also apply to the funds withdrawn. The purpose of this penalty is to promote long-term savings and to ensure that individuals do not deplete their retirement savings prematurely, which could lead to financial difficulties later in life. While there are certain exceptions to this penalty, such as using the funds for qualified higher education expenses or purchasing a first home, the standard penalty for early withdrawals remains at 10%. This is critical for individuals to understand when considering taking money out of their retirement accounts before reaching retirement age.