Mutual funds are one of the best vehicles for investing money with a long-term view in mind. However, changes in personal circumstances can prompt the need for early withdrawal. Can you take out your investment at any time, and is there a penalty?
We can withdraw money from mutual funds at any time without penalties. However, if the timing qualifies your exit from the fund as “early withdrawal,” there could be some tax penalties. There may also be some charges for selling some types of shares within the fund, which brokers may pass on.
In this article, I’ll look at everything you need to know about possible penalties before withdrawing from your mutual funds. You’ll also learn what to do when you’re ready for your withdrawal.
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Table of Contents
Why You Can Withdraw From Mutual Funds at Any Time?
It’s possible to withdraw from most mutual funds at any time because of the high liquidity within this asset class. Generally, you can withdraw your investment in as little as 24 hours from the investment time—as long as the fund is available for daily sale and repurchase.
The level of liquidity is not common with many other investment vehicles. This is why ease of withdrawal is a big talking point in mutual funds marketing brochures. In many cases, you can complete the withdrawal without any penalties. However, there are exceptions.
What Scenarios Can Trigger a Penalty When You Withdraw From Mutual Funds?
If you withdraw from mutual funds earlier than one year from your original investment or withdraw before the age of 60, you’ll likely pay a penalty fee. There may also be penalties due to selling a certain class of shares early, as well as tax penalties.
Here is more information about the penalties you may incur when you withdraw from mutual funds.
Selling Specific Classes of Shares
If your mutual funds contain some Class C shares, you may have to pay a fee for early withdrawal. These shares, known as “level-load” shares in some places, cost around 1% to purchase, and they are typically costlier to maintain yearly compared to Class A or Class B shares.
I won’t get into details of what each class of shares means. You can find a good rundown on them by The Balance. I have added a link to that article down in the ‘Article Sources’ below. Most of the companies won’t charge any fees for withdrawals from funds containing Class C shares. However, some will charge a 1% fee if you withdraw within a year of purchase.
Similarly, if the fund contains Class A or B shares, you typically have to part with an upfront sales commission totaling around 3-5% of the invested. However, some of the funds allow purchasing such mutual funds with no sales charge—also known as buying at net asset value (NAV). This is especially true if the value of your investment is $1m or more.
In exchange for waiving this fee, the companies often require keeping the investment for at least one year in the case of class A shares and six years for Class B shares. So, withdrawing from the mutual fund before the minimum holding time recommended has elapsed will lead to losing 3-5% of the investment as an “early redemption fee.”
Withdrawal Before Age Limits
The Internal Revenue Service (IRS) imposes a 10% early withdrawal penalty if you withdraw from any mutual fund purchased in an Individual Retirement Account (IRA) before reaching 59 years and six months of age.
If you sell the mutual fund and collect the cash before reaching that age, any gains realized on the sale will be taxed at the ordinary income rates instead of the capital gains rates. If you’re within a high tax bracket, the amount lost to taxes and penalties could be very significant.
Also, you should keep in mind that the 10% penalty for withdrawing earlier than six months to your 60th birthday will rise to 25% if your fund was purchased in a Simple IRA plan and you’ve only held the investment for two years or less.
Possible Penalty Waivers
There are a few scenarios where you won’t pay the 10% (or 25%) penalty fee above. They include the following:
- Withdrawal to take care of medical bills where unreimbursed fees are worth more than 7.5% of your gross income (10% if you’re under 65).
- Withdrawal to cover certain education costs.
- Withdrawal to invest in a home.
- Withdrawal to cover expenses after becoming disabled.
- Withdrawal after job loss for people aged 55 and over (no penalties but still taxable).
How Can You Withdraw Your Mutual Fund Investment?
You can withdraw your mutual fund investment by contacting your fund manager to arrange a withdrawal. If you own the mutual fund shares directly, you can handle the withdrawal through your broker or even take care of the transaction online.
Get in Touch With Your Fund Manager
The first thing you should do when you want to withdraw from your mutual fund is to call the company or the broker (if you bought the fund from one). They’ll tell you if your fund contains a Class C or A share and whether it’s held in a retirement account.
If none of these apply to you, you can cash out your mutual funds with a sell order. If you’ve held your mutual funds for more than six years, most of the concerns about shares classes won’t bother you anymore.
If you’re sure your mutual fund is held in a retirement account, contact the account trustee. For an IRA or other self-managed retirement accounts, you can reach the account trustee by contacting the broker or the mutual fund company.
If you want to cash out your fund from an employer-held (401k), you should contact the retirement fund coordinator in the HR department to discuss modalities. Don’t forget the penalties and taxes for cashing out of your retirement account, as I’ve discussed above.
Sell the Shares Directly
If you bought your mutual fund directly and it’s not a retirement account, you can call the company or broker to place a sell order on the shares. Some companies make accessing your portfolio online fairly straightforward, so you can place an order using the online order entry system.
How Quickly Can You Have Your Cash After Selling Mutual Funds?
You will need to wait at least three business days before you can get the cash after selling mutual funds. As with stocks, there is a three-day settlement period after any mutual fund sale.
If you’re cashing out from a mutual fund held in an IRA, the situation might be slightly different. In this case, speak to the account trustee to get a definitive wait time.
How Long Should You Hold Your Mutual Funds Before Selling?
You need to hold your mutual funds for at least 5-6 years before selling to generate above-average returns. The amount of time required to avoid penalties and fees from your mutual fund can vary but is typically at least one year.
However, if you have a genuine urgent need to liquidate the investment, you can withdraw it at any time and pay the penalties.
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Conclusion
You can withdraw from your mutual funds at any time. However, if you’re still below 60 years of age or you’ve held the fund for less than one year, there’s a high probability that you’d pay some penalties or fees. The size of the fees will vary between 1-25%, depending on the specific situation.
Mutual funds held in an IRA or other retirement often attract the most penalties, so if you’re looking at cashing out one of these, you should seek proper financial advice and weigh up the pros and cons.
BEFORE YOU GO: Don’t forget to check out my latest article – ‘Exploring Social Trading: Community, Profit, and Collaboration’. I surveyed 1500+ traders to identify the impact social trading can have on your trading performance, and shared all my findings in this article. No matter where you are in your trading journey today, I am confident that you will find this article helpful!
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