When cash is tight or opportunities arise, people often want to tap their IRAs or other retirement accounts. There could be a penalty for doing so if you are under age 59½. But even then, with a little planning you might be able to avoid the penalty and have more after-tax cash to spend.

A distribution from an IRA or other qualified retirement plan is included in gross income and subject to income taxes. The only exceptions are distributions of after-tax (nondeductible) contributions and qualified distributions from Roth IRAs. In addition to the taxes, if you are under age 59½ a penalty of 10% of the distributed amount is owed.

There are exceptions to the penalty—13 of them. Only one of the exceptions allows for real planning. Most of the exceptions depend on your having a certain status, such as being disabled or being unemployed and using the distribution to pay for health insurance.

The exception that provides the most planning opportunities is for a “series of substantially equal annual distributions.” This sometimes is referred to as the SOSEPP exception (for “series of substantially equal periodic payments”). The SOSEPP exception primarily applies to IRAs. It applies to qualified employer plans only if the employee has separated from service of the employer.

To qualify for the exception, distributions from the IRA must be taken at least annually. The payments must be scheduled to last for the account owner’s life expectancy or the joint life expectancy of the owner and a beneficiary.

The distributions must continue until the later of either five years or when the owner reaches age 59½. For example, if substantially equal annual distributions begin at age 57, they must last at least five years to avoid the penalty. If the payments begin at age 50, they must continue at least until the owner reaches age 59½. After payments have continued for the required minimum period, they can be stopped without triggering the penalty.

If you begin distributions under this exception and then stop or improperly change the distributions, the penalty is due for all early distributions taken to date.

The amount withdrawn must be substantially equal each year and must be calculated in one of the IRS’s approved ways.

Example. Max Profits left his employer at age 45, taking a lump sum of $1.2 million in retirement benefits that he rolled over to an IRA. After five years Max decides to make $250,000 of improvements to his home when his IRA’s balance is a little over $1.8 million. If he withdrew a lump sum to pay for the improvements, he would have to withdraw over $400,000 to have $250,000 left after paying both income taxes and the 10% penalty.

As an alternative, Max took out a 15-year second mortgage on the home. The monthly mortgage payments at the time were $3,000.42, for a yearly total of $36,005 in principal and interest. To make the mortgage payments, Max takes substantially equal annual withdrawals of $55,781 from the IRA and uses the after-tax proceeds to make the mortgage payments. Max also deducts interest paid on the mortgage.

So Max pays for the improvements over time, uses the IRA distributions to make the mortgage payments, avoids the 10% penalty, and deducts the mortgage interest payments. In addition, if Max’s IRA is able to earn investment returns that are greater than the rate at which he is taking withdrawals, the IRA balance will continue to grow during the 15 years.

The IRS has approved three methods for calculating the distributions. They initially were in Notice 89-25 and were modified in Revenue Ruling 2002-62. Once a distribution method is selected, it generally cannot be changed, though there are exceptions. The methods have different advantages and disadvantages and can generate very different distribution amounts.

One option is the RMD method, under which distributions are computed the same way as the required minimum distributions after age 70½. The distribution is recalculated each year, using the current balance of the IRA and the new life expectancy from IRS tables. Under this method, the payments will fluctuate a bit each year. The taxpayer will not be able to forecast the fluctuations unless changes in the IRA balance can be predicted.

The second method is the amortization method. The taxpayer selects a reasonable interest rate and reasonable life expectancy. Then a financial calculator or amortization tables are used to compute the distributions in the same way as for a self-amortizing, level payment mortgage. The amount of the distribution is determined the first year and does not change. Any year after the first year the IRA owner can switch from this method to the RMD method.

The third method is the annuity method. The owner chooses a life expectancy from one of the IRS-approved life expectancy tables and determines a reasonable interest rate. Then the taxpayer finds the annuity factor in Appendix B of Revenue Ruing 2002-62 for that life expectancy and the selected interest rate. The IRA account balance is divided by the annuity factor. The taxpayer can either fix the annual distribution at this amount or can choose to recalculate the distribution each year. Any time after the first year, the owner can switch to the RMD method. Many taxpayers find they need a professional advisor or a software program to compute the payments under the annuity method.

The methods give very different distributions the first year, and the amount of distributions can change in subsequent years. To select a method, you should first estimate the amount you need to receive penalty free. Then, compute distributions under each of the methods and choose the one that is closest to your needs. Under some of the methods there is flexibility in choosing the interest rate and life expectancy as long as you are reasonable. You can compute distributions using different numbers to arrive at a method.

A taxpayer who wants variable payments should select the RMD method. A taxpayer who wants relatively fixed payments for at least a few years can choose one of the other methods. The participant always can switch to the RMD method later. A switch to the RMD method might be a good idea if after time poor investment returns mean the account would be depleted by continuing the fixed distributions of the other methods.

In addition to these options, “any reasonable method” can be used to compute the distributions, but the IRS offers no examples of approved methods and IRS permission must be received before using an alternate method. Though the rules say a method once selected generally cannot be changed, the IRS has issued private letter rulings allowing modifications to the three methods in some cases.

Since distributions are based on the IRA balance at the end of the year, some people want to adjust the distributions by taking additional money out of the IRA or shifting money in or out of the IRA. These moves generally are considered to be a change in the distribution method and would trigger the 10% penalty on all of the distributions taken to date.

But there are exceptions. Money can be taken from the IRA for a purpose that meets one of the other exceptions to the 10% penalty. In one case, an IRA owner who already was taking substantially equal payments took money out to pay for a child’s college tuition. In another case, an unemployed taxpayer took additional money to pay medical insurance premiums. In each case, no penalties were imposed.

There are many reasons to take early distributions from an IRA. A financial setback or other need for money are two reasons. People with substantial estates might take distributions to make gifts to family members or to buy life insurance. Some people who have most of their wealth in qualified plans take early distributions  to achieve tax diversification. Having money in different types of accounts is a hedge against tax law changes. Others reasons to take early distribution are to start a business, help someone buy a house, pay you own mortgage, or pay for someone’s education.