Beware The IRS Tax Trap Awaiting Anyone Who Raids Their Roth IRA Early

"When you owe the government money, they’re not very happy. And you probably owe the government money with pulling out from that Roth IRA." That line came from Caleb Hammer on his Financial Audit show, talking to a guest named Veronica who had cashed out her entire Roth IRA, was carrying $13,142 in credit card debt, and had not filed her 2023 taxes despite the withdrawal. Her plan, in her words: "hope that I have enough money by next year filing."

Hope is not a tax strategy. If you did something similar, you are not totally stuck, but the order in which you fix things matters. Get it wrong and the IRS becomes your biggest problem, well ahead of the credit card company.

The verdict: the tax bill is the real emergency

Hammer’s instinct is correct. When you raid a Roth IRA before age 59½, the IRS treats the money in two buckets. Your contributions, the dollars you originally put in, come out tax-free and penalty-free at any age. Your earnings, everything the account grew by, get hit with ordinary income tax plus a 10% early-withdrawal penalty if you are under 59½ and the account is less than five years old.

Run the numbers on a realistic case. Say you cashed out a $20,000 Roth IRA that contained $14,000 of contributions and $6,000 of earnings. The $14,000 is yours, clean. The $6,000 of earnings gets taxed at your marginal rate, call it 22%, which is $1,320 in federal income tax. Add the 10% penalty, another $600. State income tax stacks on top. You are looking at roughly $2,000 in federal liability on a $20,000 withdrawal, before state.

Now compare that to the credit card. Hammer calculated Veronica’s minimum-payment timeline at 24 years on the $13,142 balance. At a 24% APR paying a 2% minimum, you finish paying in your retirement years and the interest paid roughly doubles the original balance. The IRS bill is worse, because unpaid taxes accrue failure-to-file penalties (5% per month, capped at 25%), failure-to-pay penalties, and interest. The credit card company sends letters. The IRS garnishes wages and levies bank accounts.

If you cashed out a Roth and skipped a filing year, the tax return is the first call you make, before anything else.

The variable that decides how bad this gets

The single factor that changes everything is how much of your withdrawal was contributions versus earnings. Your Form 5498s from past years and your IRA custodian’s records will tell you. Two readers can cash out the same dollar amount and owe wildly different taxes.

Reader A opened a Roth at 25 and contributed $7,000 a year for ten years. The account grew to $90,000. They withdraw the whole thing at 36. Of that, $70,000 is contributions, tax-free. Only $20,000 is taxable earnings. Federal hit at 22%: $4,400 in tax plus $2,000 penalty, roughly $6,400 owed.

Reader B inherited a small Roth, contributed sporadically, and the account grew mostly through a single lucky stock pick. Same $90,000 balance, but only $20,000 of it is contributions. Now $70,000 is taxable earnings. The penalty alone is $7,000, and the income tax could push them into a higher bracket entirely. Same withdrawal, completely different damage.

The macro backdrop makes this worse for everyone. The national savings rate has fallen from 6.2% in early 2024 to 4% in the first quarter of 2026, and CPI climbed from about 321 in April 2025 to about 333 in April 2026. Inflation eats the buffer that would otherwise let you pay down a $13K balance in a year or two.

What to do this week

1. File the missing return first. Even if you cannot pay, filing stops the 5% per month failure-to-file penalty cold. You can request an installment agreement directly through IRS.gov for balances under $50,000; approval is largely automatic.
2. Pull your Form 5498 and 1099-R. The 1099-R from your custodian reports the gross distribution. Your historical 5498s show contributions. The difference is your taxable amount. Hand both to a tax preparer or plug into tax software.
3. Stop the bleeding on the cards. List balances and APRs. Call each issuer and ask for a hardship rate reduction; many will drop the rate to single digits for 6 to 12 months if you ask. Then attack the highest-rate card first while paying minimums on the rest.
4. Kill the lifestyle gap. "I’m living the life that I eventually will be able to afford" is the sentence that put Veronica in this hole. If your spending requires a future income you do not yet earn, the gap closes through debt, and debt at 24% closes nothing.

You are behind, but recoverable. File the return, settle the tax bill on a payment plan, and treat the credit card minimum as the floor and build a real payoff plan on top of it.