Need Advice on Whether to Use an IRA to Pay off Debt

[Anonymous]

 Based on my current situation, I am considering whether using my retirment fund would be a worthwhile option to pay off my debt. 

My debt is a result of several years of serious medical expenses; I was using my card to buy necessities while I paid off my bills.  I had just paid my last doctor bill and was planning to snowball that money to my credit debt (which I was only able to make minimum payments on during that time) when I got laid off last month.  I am 34 years old (single, no kids), living paycheck to paycheck with no savings.  I have $11,000 in debt ($11,500 CL at 9.9%).  My average credit score is 730.  I have three lines of credit but only one card has a balance.  I have tried applying for new credit to do a balance transfer but was denied.  It also doesn't make sense to use my other cards to pay this card down since their APRs are higher.  I have severance pay for two more months but when that time is up, if I'm still unemployed, I will not have any income to even make minimum payments, let alone pay for basic living expenses.  

As it is, I am wondering if it would be wise to use my retirement account to pay off my debt.  It is worth $30,000 and I am fully vested.  The account accrues until January when my severance ends and I will then have to transfer it to an IRA, preferably a Roth.  I already have another IRA set up (it's a nominal amount) and would like to transfer that to a Roth as well.  Now, I'm very naive about these IRAs and am not sure how much I would be penalized for a withdrawl but can only imagine, since I've already paid $1000 in interest on this credit card so far this year, that the penalty would be somewhat equivalent to the money I'd lose in interest paying off the card over time. 

Does this sound like a good strategy?  I'm telling myself that based on my age, knowing I would still have money in this account, and that not having the debt will allow me to make up for what I withdrew with income and benefits at my next job, that maybe this is a good option.  Even if I have a job by January, unless it's making much more than I was, I will still be living paycheck to paycheck in an attempt to pay off my debt.  So, God knows paying this card off, period, would be a huge stress relief.  I don't want to do this if it would be detrimental in the long run though. 

Anyone out there knowledgable in this regard that can tell me if this is a smart decision?

Thanks in advance for your help.

[haulingthescoreup]

Well, maybe since you're only 34, but still...

What is your minimum payment? Who is the CC with? I hate paying any interest whatsoever, but 9.9% isn't that bad; it's less than 1% per month, and with luck, you'd only have to do this for a few months.

You might want to think about only tapping enough of it, assuming you haven't found another job by then, to pay your living expenses and your minimum CC payment.

Several reasons for this:

1. You will get killed coming and going if you tap into it now. I had an old 403(b) --nonprofit institution version of a 401(k) --that was just sitting there, and DD#2 needed a car. Actually, I needed her to have a car, so I could stop driving her all over creation. The amount in my 403(b) was exactly what I needed to buy a used car, plus pay what I thought were the early w/d penalties and taxes involved. But even though I prepaid all I thought I needed, we got slaughtered on our income taxes the next year. It probably cost me $5,000 to pull out the $9,500 or so that I had saved up.
2. You will lose the compounded appreciation of the amount that you pull out. Unless you can nearly immediately replace the $12K or however much you need to withdraw, you're going to lose all the power of compounding in the time it takes to replace that money. And also, while you're catching back up, you won't be increasing that $30K further.

So I can see that you might have to hit it, but if you can minimize the amount that you withdraw, just pulling enough to stay alive and stay current on your CC, you'll have less financial hurt.

But again, if having this debt hanging over your head makes the stress of unemployment even worse, I can see just biting the bullet and doing it all. Just be braced for what feels like unending financial penalties come April 15.

I feel for you in these tough times, and I hope it turns around for you soon.  --hope this helps

[MarineVietVet]

I will only add a little to what HTSU said.

You need to talk to someone in your accounting office or the IRS and figure out exactly what type of possible penalties and interest you might be looking at for different scenarios. This is too important a decision to not know all the facts before hand.

What ever you decide to do I wish you well.

From a BK years ago to:
EX - 9/09 pulled by lender 802, EQ - 10/10-813, TU - 10/10-774

"Some people spend an entire lifetime wondering if they've made a difference. The Marines don't have that problem".

[MattH]

Talk to both a lawyer and a fee-only financial planner before you make any decisions; the cost of their services would be much much much less than the potential cost to you if you make the wrong decision.  In addition to the factors others have mentioned in this thread, another possibly important factor is that if you end up filing bankruptcy assets held in a retirement plan usually have special protection from creditors.  If you pull money out of your retirement plans, not only do you have to pay tax penalties but also you weaken your position should you file a BK.

[GregB]

I'm not an expert on this but have some minor input,

I think you can transfer your retirement to your IRA with minimal fees. My fee to transfer was $50. A Roth IRA is after tax retirement. Why would you want to pay tax now to avoid it later at retirement?

I wouldn't do anything without information but talking to a tax lawyer or CPA about the taxes on $11,000 IRA seems impractical. I have my IRA with Schwab and they would give me all the relevant info on something like this at no charge. Is your present IRA with someone you could ask? If not, I would talk to someone like Schwab about moving both.

Regardless, you need income. Even if you could take all the retirement fees and not pay taxes, you still are going to run out of money fairly soon.

ETA: The above is assuming that you don't have a regular CPA that you are using for all your tax decisions.

[Anonymous]

My card is a Mastercard through Edward Jones where I have my accounts.  I will definitely be consulting someone (who I can't afford to pay a fee for) but wanted to ask this here for the sake of tapping into unbiased opinions.  The fact my debt and my accounts are at the same company though is another concern I have.  Someone previously mentioned that this would work against me if I can't keep up payments.  Right now, the minimum payment is roughly $215 per month.  Considering my take home pay is $2000 per month, after rent, bills, gas and groceries, I'm lucky if I have $75 to spare if something else comes up or, god forbid, I have a birthday gift to buy, etc.  So, like I said, even if I double the payments somehow when I'm working again, I'll still have this debt for a few years.  Granted, paying it down with the least amount of tax penalties is ideal.  My fear, of course, is that I'll be scraping by month to month until I'm 40 years old and then be starting from scratch without even a droop in savings if I don't get this off my back sooner.  At the same time, among other things I currently have to worry about, my car is 11 years old and problems keep arising.  So, even if I don't use my IRA, unless I start making more money than I was, I won't be able to put any extra cash aside to tend to that or any other potential "emergency" expenses.  That is a very unsettling feeling.  But that's why I'm here, I don't want to make a decision based on emotions and I want time to think this through before January so I know what is best for me to do when the time comes.

Thanks for all your input. 

[GregB]

I would think Edward Jones would offer the same kind of account advice at no charge as Schwab. Since your credit card is through them, I would want to present it to them without any reference to potential default. You could just say that since you temporarily have low income, you want to try to avoid as much interest as possible without causing additional tax burden.

Another way to go would be a call to a different Investment Bank, like Schwab, and talk about the tax info of moving/transferring your accounts.

I don't recall much advice on this site from accountants.