401(K) vs. IRA Plans
If your employer offers a retirement plan like a 401(k), and will match a percentage of your contributions, you should definitely take advantage of it. After all, it's free money for you. Plus you'll have a tax-deferred account that makes saving a cinch through automatic payroll deduction. If your employer doesn't offer a plan, then an IRA (Individual Retirement Arrangement) can be a good start to your retirement savings and another opportunity for your earnings to grow tax-free.
Plan Type 401(K) IRA SIMPLE IRA
Contribution Limits $18,500 $5,500 $12,500
Those aged 50 and older $24,500 $6,500 $15,500
Maximum combined contribution for employee and employer $55,000 N/A $12,500 + up to 3% employee's compensation or Contribute a fixed rate of 2% of every employee's compensation, regardless of whether they participate.
Maximum combined contribution for employee and employer for those aged 50 and older $61,000 N/A $15,500 + up to 3% employee's compensation or Contribute a fixed rate of 2% of every employee's compensation, regardless of whether they participate.
Who can participate? Anyone who works for an employer that offers a plan. Anyone under age 70-1/2 with earned income can open a traditional IRA. Self-employed individuals, small business owners, and any business with 100 or fewer employees that doesn't have another plan.
What you can invest in? Most employers limit you to a preselected list of investment choices. You can invest in a wide variety of mutual funds, exchange-traded funds (ETFs), and individual stocks and bonds. You can invest in a wide variety of mutual funds, exchange-traded funds (ETFs), and individual stocks and bonds.
Withdrawals and loans You can't take withdrawals until a specified event, such as reaching age 59-1/2, termination of the plan, separation from service, or other event as identified in the plan. If you withdraw before age 59-1/2, you're subject to a federal penalty tax of 25%, you may not take a loan from your IRA. If you withdraw before age 59-1/2, you're subject to a federal penalty tax of 25%, you may not take a loan from your SIMPLE IRA.
The Cost of Early Withdrawals
Early withdrawals from an IRA or 401k account can be an expensive proposition because of the hefty penalties they carry under many circumstances. The IRS allows penalty-free withdrawals from retirement accounts after age 59-1/2 and require that you begin taking withdrawals from plan no later than when you reach age 70 1/2. (these are called Required Minimum Distributions or RMDs). There are some exceptions to these rules for 401(k)s and other ‘Qualified Plans.’ Generally though, if you take a distribution from an IRA or 401k before age 59-1/2, you will likely owe both federal income tax (taxed at your marginal tax rate) and a 10% penalty on the amount that you withdraw, in addition to any relevant state income tax. That tends to add up. Given these consequences, withdrawing from a 401k or IRA early is not ideal. 
Reasons For Penalty-Free Retirement Fund Withdrawals
If you find yourself in a situation where you do need to withdraw funds from your 401k or traditional IRA early, there are a few circumstances in which the 10% penalty might be waived. This doesn’t include items that deal with death or complete disablement. In that case, a penalty tax is not likely to be top of your concerns. Keep in mind that although these exceptions may enable you to avoid the 10% penalty, you will still owe income tax on any premature IRA or 401k distributions. Also remember that these are broad outlines. Anyone wanting to tap retirement funds early should talk to their financial advisor.
1) Education
You are allowed to take an IRA distribution for qualified higher education expenses, such as tuition, books, fees and supplies. This distribution is still subject to income tax, but there won’t be an additional penalty. For instance, if you want to go back to graduate school and you need the money, you can decide to tap your retirement fund for tuition. The rule also allows you to apply this exception to your spouse, children or their descendants. Keep in mind this is for IRAs, 401ks or other Qualified Plans are subject to a different ruleset. Specifically, some 401k plans will allow what is called a “hardship withdrawal,” with education expenses sometimes falling under this clause. It is important to note here that expenses eligible for a hardship withdrawal will vary depending on your 401k plan administrator, so make sure you are aware of what will qualify under your specific plan. Some providers do not allow hardship withdrawals at all. You’ll also likely be charged the 10% fee for taking funds from your 401k early for most types of hardship withdrawals. There are a few exceptions, but education expenses are usually not one of them. Basically, hardship withdrawals mean you’re able to take money from your 401k before you reach age 59-1/2, but most of the time you will still be hit with the penalty.
2) First-time home purchase
You can take up to $10,000 out of your IRA penalty-free for a first-time home purchase. If you are married, your spouse can do the same – and “first-time home” is defined pretty loosely. For the purposes of the IRS, it is your first-time home if you have not had ownership interest in a home for the past two years. Just like the education exclusion, you can also tap this option for the benefit of your family. Your children, parents or other qualified relatives may receive the same $10,000 for their purchases, even if you’ve used this benefit for yourself previously or already own a home. First-time home purchases or new builds may also be considered eligible for a “hardship withdrawal” from your 401k, but again, the 10% penalty will still likely apply here.
3) Medical expenses or insurance
If you incur unreimbursed medical expenses that are greater than 10% of your adjusted gross income in that year, you are able to pay for them out of an IRA without incurring a penalty. For a 401k withdrawal, if your unreimbursed medical expenses exceed 7.5% of your adjusted gross income for the year then the penalty will likely be waived.
4) Family Circumstances
If you are required by a court to provide funds to a divorced spouse, children, or dependents, the 10% penalty can be waived.