For Roth IRA withdrawals to be tax-free and penalty-free, different rules apply to different types of money in the account:
* Periodic contributions. Say you’ve been putting thousands of dollars into a Roth IRA each year for several years. You can withdraw the total amount of your original contributions at any time, with no tax or penalty. Once you’ve withdrawn the amount you’ve contributed, you’re withdrawing earnings.
Withdrawals of earnings are tax-free and penalty-free after five years and after age 59 1/2. If you fail either test, withdrawn earnings are subject to income tax and perhaps a 10 percent penalty. The five-year clock for tax-free earnings withdrawals starts on January 1 of the year when you made your first Roth contribution and remains on that schedule, no matter how much you subsequently contribute.
* Conversions. If you convert a traditional IRA to a Roth IRA, you’ll generally owe tax on the deferred income in the year of the conversion. Subsequently, you’re also subject to a 10 percent penalty on withdrawals of the converted dollars until five years later or age 59 1/2, whichever comes first. As for earnings after the conversion, you need to pass both the age 59 1/2 and the five-year tests before withdrawals are tax-free.
