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Revisiting a classic - 401k withdrawal to pay off CC debt

Established Contributor

Re: Revisiting a classic - 401k withdrawal to pay off CC debt

NO NO NO NO NO NO NO NO NO

 

 

Okay now thats out of the way...

 

Withdraw from 401K or Loan from 401K is NEVER a good option

You are STEALING from yourself....   that money is OUT OF PLAY from the market as you have it on loan... its not just costing you 5.75%APR.... 

 

401K is not touchable by creditors.... even during bankrucpy... *up to 1.2M

 

NEVER touch your retirement accounts... not to mention the 'boom' to the next tax bracket and the penatly alone...   

 

DONT DO IT





Message 11 of 21
Established Contributor

Re: Revisiting a classic - 401k withdrawal to pay off CC debt

Can you get a LENDING CLUB or PROSPER Consolidation Loan?  Maybe both of you can get one?      





Message 12 of 21
Valued Contributor

Re: Revisiting a classic - 401k withdrawal to pay off CC debt

I didn't say to declare bankruptcy but if 43k in debt is causing you such hardship it might be something to think about. My thought is if you run into an issue down the road you have money in your 401k is safe.

You are 44 so you only have 20 years left.
Also since 43k in debt is causing you such financial hardship I am guessing it will be quite a while for you to get back that 60k into your 401k. And you are throwing 6k into the garbage. Do you have state income tax?

If I was going to take money from 401k it would be a loan. No penalty and the interest is low and you are paying yourself back. Thinking short term is what got you into this problem . Withdrawing 60k from your 401k is short term thinking. You have to change how you think about financial problems.
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Message 13 of 21
Valued Contributor

Re: Revisiting a classic - 401k withdrawal to pay off CC debt

Also, if the money is with your current employer you may not be able to access the money until you leave the company.

 

I have to agree that using retirement to pay current debt looks like a tempting way out but it will truly cost you much more than you could anticipate.

Message 14 of 21
Frequent Contributor

Re: Revisiting a classic - 401k withdrawal to pay off CC debt

 

While others are saying no, don't ever - I say it may make sense for you and your situation.  For some, $43k might be 50% of their 401K which means the loss will be a large hit.  For someone else, it could be just 10% of their current 401k making a smaller impact on overall retirement savings.  

 

In either case, you will have less to retire on and will need a firm plan to replace this money.  How aggressive this needs to be will depend on where you are in your retirements savings.

 

A straight withdrawal will likely take far more paperwork and may require you to share more of your personal life with your employer than you wish if they only offer hardship withdrawals.   Sometimes withdrawals are only allowed to stop foreclosures (and only enough to cover the amount to stop) or medical expenses etc.  

 

A loan can often be done between you and the 401K company and doesn't cost you all the tax money.  Its a loan that doesnt show on the CRA's, often has a lower interest rate than a personal loan, and comes right out of your paycheck.  Your retirement still takes a hit but a smaller one as you pay it back each week with interest.  Be sure to add these weekly payments to your calculations as to what it takes to recover from the loan funding.

 

While BK is an option, it will effect your credit report and interest rates for the next 10 years - CC's, auto loans, any mortgages etc.  These potential costs also need to be calculated against the lost retirement funds.

 

My 2 cents in covering some other opinions.

 


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Message 15 of 21
Valued Contributor

Re: Revisiting a classic - 401k withdrawal to pay off CC debt

I was in the OP's shoes not quite a year ago, and prematurely liquidated IRA funds to get my finances back in order.  Not the best of things, not the worst. 

 

Pros

  • Allowed me to get out from under crushing CC debt.
  • Allowed me to rehab my FICO scores and refi our mortgage to a more advantageous rate for a shorter term.

 

Expected Cons

  • Took a significant tax hit
  • Lost about 3 years' worth of retirement contributions (and their earnings).

 

Unexpected Con

  • Costly Estimated Tax payments for the subsequent fiscal year

 

What I Learned:

1) It's all for nothing if you don't adopt a pay-in-full approach to credit cards going forward.

2) Budget, budget, budget -- at least a year in advance.

3) Consult an accountant to fully understand the tax implications of all approaches open to you.

4) As already noted above, factor into your budget both the tax to be paid in the current year AND an Estimated Tax payments for the subsequent tax year.

 

All said & done, I'd do it again, but be more conservative with the budget.  Our budget this year has gone to Hades because of the Estimated Tax payments.

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Message 16 of 21
Frequent Contributor

Re: Revisiting a classic - 401k withdrawal to pay off CC debt


@r90pbmw wrote:
And since a few people here have mentioned it, I'm reconsidering loan options, as well. It might be the lesser evil, allowing loan interest (5.75%) to be paid back to myself, even if it does come with its own handful of downsides.

Don't underestimate the psychological benefit of this. Personally, I would find it much more rewarding to pay myself interest than a bank. (Not to mention the payments will be lower because the interest rate is lower.)

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Message 17 of 21
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Valued Contributor

Re: Revisiting a classic - 401k withdrawal to pay off CC debt


@r90pbmw wrote:

Hello! Hoping someone can help me punch holes in my extremely flawed logic. First, sorry for the long post... I’m very aware of the conventional wisdom on this topic (and the good reasons for it), but I’m wondering if there are circumstances where cashing in a portion of a 401k to eliminate credit card debt is an acceptable solution? For a variety of reasons – some justifiable, some maybe not – my wife and I have accumulated $43k in CC debt. Having lived with this for a number of years now, and felt the enormous weight and pressure it can put on personal finances, we are absolutely committed to never getting here again. Ever. When it’s gone, it stays gone.

For the past few years, we have been trying to aggressively pay down the debt, paying as much as we can monthly, leaving ourselves enough to cover bills, but little else. Our current budget is as pared-down as it can be: no cable, no landline phone, one reasonable car payment, rarely dining out, etc. We are making slow progress, but there are two important issues, as I see it:
1. Without a savings plan, any major expense - car repair, medical expense, house emergency - ends up on a credit card and immediately undoes whatever progress we’ve made.
2. We are perpetually strapped, unable to feel like we are fully participating in life (not taking vacations, rarely visiting family, feeling guilty about any money we spend on ourselves, no matter how small).

Proposed resolution:
I’m aware that this is universally frowned upon, but…
- 401k distribution to cover the entirety of the debt, or,
- 401k distribution to cover about half, and a 0% balance transfer to help us pay the rest down as quickly as possible.

I’m 44, and well aware of the 10% penalty, impact on our income tax liability when filing next year, and what it would do to our retirement bottom line if I withdraw between $30k and $60k. FYI, I’m a little less interested in a 401k loan since it just trades one debt for another, albeit at a lower interest rate which gets paid back to myself.

Why I still think this might be a good idea:
As it relates to my 401k balance at retirement age, I’ve considered three scenarios:
Scenario #1: Don’t touch 401k balance, and continue paying down debt as best we can. Contribute at a rate of 4% (to get full employer match) for the next 5-6 years, then bump contributions to 15%+ once debt-free. Meantime, pray nothing happens that will add to the debt and push the payoff date out further.
Scenario #2: Withdraw $35k from 401k, contribute 4% for the next 2-3 years to focus on paying off remaining CC debt, then bump contribution to 15%+
Scenario #3: Withdraw $60k from 401k, clear all CC debt, and immediately bump contributions to 15%+

Flawed logic time... By my math, using the calculator on Bankrate, the retirement age 401k balance of these three scenarios all end up within about $90k of one another. So am I willing to sacrifice $90k in 20+ years in order to eliminate $42k in credit card debt today? I think I might be. It would instantly change the quality of our lives, freeing up money that could be used to build up a true savings account, comfortably pay bills each month, address the deferred maintenance on our cars or house. Most importantly, it would allow us to take a deep breath and more fully live our lives now.

 

I keep dreaming of being debt-free, and keep wondering if this would be such a terrible way to do it. What says the community?


I withdrew about $25k from a 401k to pay off CC debt about 10 years ago. Today, I'm completely debt-free and saving like a fiend.

 

It was one of the dumbest and worst things I could have done and I still stress about it regularly. Because of that one withdrawal, I will very likely not be able to retire until I'm in my 70s. Instead of all my money going to CC debt, now all my money goes to retirement savings because I screwed myself 10 years ago. Maybe you won't regret it the way I did, but if you do, you'll just be trading one stress for another.

 

If you're looking for the flawed logic, it's that you cannot predict the equities market in 5, 10, or 30 years, and money withdrawn is not only lost to compounding/dividend, when it re-enters your retirement plan later it'll be at current prices. $10k invested in Apple in 1995 will return more by 2020 than $100k invested in 2005. I withdrew in 2008, right as the bottom was starting to fall out. That $25k withdrawal was more like $35k a year before. Even worse, that $25k would have been $150k in 2015. It could well have been $600k or more by 2040 when I would have liked to retire. Thus, I may well have paid over half a million dollars to wipe out $25k in debt.

 

There's always other ways out. Inquire with the CCs about hardship plans. Downsize or take on a roommate at your home. Sell valuables you may not need.

 

If you can score a lower-interest loan or BT, it's a way to go but you better make very sure you're both on the right mindset for getting out of debt. Alcoholics don't kick the habit with more alcohol, and this can just as easily send you deeper into debt if you fall off track.

Message 18 of 21
Established Contributor

Re: Revisiting a classic - 401k withdrawal to pay off CC debt

 withdrew about $25k from a 401k to pay off CC debt about 10 years ago. Today, I'm completely debt-free and saving like a fiend.

 

It was one of the dumbest and worst things I could have done and I still stress about it regularly. Because of that one withdrawal, I will very likely not be able to retire until I'm in my 70s. Instead of all my money going to CC debt, now all my money goes to retirement savings because I screwed myself 10 years ago. Maybe you won't regret it the way I did, but if you do, you'll just be trading one stress for another.

 

If you're looking for the flawed logic, it's that you cannot predict the equities market in 5, 10, or 30 years, and money withdrawn is not only lost to compounding/dividend, when it re-enters your retirement plan later it'll be at current prices. $10k invested in Apple in 1995 will return more by 2020 than $100k invested in 2005. I withdrew in 2008, right as the bottom was starting to fall out. That $25k withdrawal was more like $35k a year before. Even worse, that $25k would have been $150k in 2015. It could well have been $600k or more by 2040 when I would have liked to retire. Thus, I may well have paid over half a million dollars to wipe out $25k in debt.

 

There's always other ways out. Inquire with the CCs about hardship plans. Downsize or take on a roommate at your home. Sell valuables you may not need.

 

If you can score a lower-interest loan or BT, it's a way to go but you better make very sure you're both on the right mindset for getting out of debt. Alcoholics don't kick the habit with more alcohol, and this can just as easily send you deeper into debt if you fall off track.


Withdrawing the money is definitely the absolute last resort, for sure.  But had you taken a loan for $25k against your 401(k), your story world be much different.  You would have had to budget to pay back the $25k, but you wouldn't have lost the potential compound interest.

 

Of course, not all  employers allow this...  but if they do, it's a much better option.

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Message 19 of 21
Valued Member

Re: Revisiting a classic - 401k withdrawal to pay off CC debt

Hi there, your post is nearly 6 months old now but I am wondering what action you took and how it has worked out for you?

 

I find myself in a similar situation and interested in hearing your experience if you are willing to share.  Thank you Smiley Happy

Message 20 of 21