Your 401k is meant for you to accumulate money for your retirement and there are certain tax advantages for doing so. So you must be careful in how you withdraw funds until you're at least 59 1/2 or you will be subject to a 10 percent penalty and you will have to pay regular income tax on the amount you withdraw. In its wisdom, the 1997 Taxpayer Relief Act was passed by Congress which made some exceptions to your right to withdraw funds from your 401k.
Make a down-payment of up to $10,000 on a new home if you have not bought one for at least two years, or if you are a first-time home buyer. If your spouse also has a 401k, your maximum withdrawal is $20,000. The IRS waives the imposition of the 10 percent penalty, but you will be obligated to pay regular income tax on the amount you withdraw.
Withdraw funds from your 401k if you have excessive medical bills incurred by your spouse or members of your family. With the high cost of medical care, many people turn to their 401k for financial help. Of course, like a down-payment on a home, you will pay income tax on the withdrawal, but the IRS will not impose a 10 percent penalty.
Use the money in a 401k retirement account to pay for both college and secondary expenses for yourself or your dependents. The law explicitly includes both levels of education and recognizes the needs of many people given that those costs have risen faster than the rate of inflation.
Borrow money from your 401k, but pay close attention to the IRS rules. First, make sure that your employer's 401k plan allows participants to borrow money, because some plans are silent in this regard. Second, the maximum amount you can borrow is the lesser of $50,000 or one-half of your vested interest in the plan. Your loan must be repaid within five years. Payments must be made at least quarterly, and according to the IRS, those payments must be "similar." Finally, the interest rate of the loan must be "reasonable."
Withdraw funds from your 401k if you retire earlier than 59 1/2. The IRS states that you must make "substantially equal periodic payments" before you reach 59 1/2 and it sets a rate based on the amount of the fund and your life expectancy. That amount is quite difficult to compute, so to stay out of trouble by asking your company or a financial adviser for help.