401k Planning » 401k Hardship Withdrawal
Is It A Good Idea To Pay Off My Credit Cards With My 401k?
Many Americans are having a difficult time making mortgage or credit card payments, and we talk to people every day who thinking about borrowing against their retirement accounts to pay off their debts. While it might be tempting to pay off your credit card debt by borrowing against your 401k, you might want to re-think that strategy.
Not only will it reduce the money you need for your retirement, it will reduce its long return, there will be taxes and interest. Practically every plan will allow you to borrow the money for a point or two above the prime rate. The most you can borrow is usually less than ½ of the account, or $50,000, whichever is less. You will have to pay that money back within fifteen years if you used if for a mortgage, and five years for any other expenses. They also charge fees to do this of one hundred dollars or so. If something happens and you can't pay it back within these times, and you are less than 59 ½ years old, you will have to pay income tax on the amount, plus an early withdrawal penalty of 10%
Even with these potential future fees, many people are maxed out on credit cards, and are not able to access any remaining equity in their houses, since credit is being tightened and people are not getting equity loans like before the bubble burst. With no approval process for a 401(k) loan, there are no qualifications or reasons to be turned down. It's your money, and it's there if you really need to borrow it.
Also increasing is the amount of "hardship" withdrawals that the IRS allows for funerals, medical bills, avoiding eviction, or buying a first house. Since people can't be creative with equity withdrawals from their equity in their home anymore, they are being creative on other ways to access capital to keep the bills paid; however, the 401(k) should be the loan of last resort. The Principal financial group reports that in August 2007, the requests to withdraw money to avoid a foreclosure doubled over July. Clearly this is another bubble that could burst in the future.
Even if you can pay the loan back before there are any penalties, you are taxed two times on the loan, one time when you pay back the loan with after tax dollars, and again when you take out the money in your retirement. Do you really want to be paying taxes on taxes? Also, you are cheating your future because that money won't be invested or growing. If you borrowed $10,000 when you are forty years old, against a $150,000 401(k), you would see a decrease of over $83,000 when you retire at 65 vs. if you left the money alone. That should be enough to discourage you doing this unless it is absolutely necessary.
And you better have job security, because if you are fired, quit, or are laid off, you will have to pay off the loan within 90 days, and if you are younger than 59 ½, you will get those penalties and income tax. That extra income you borrow could also cause you to go to the next higher tax bracket, costing you even more in taxes.
Unless you are so desperate, it's your last resort, it appears that borrowing against your 401(k) to pay off your debt is not a good idea.
If the debt is so overwhelming and you can't force yourself to file bankruptcy, you might want to visit our website for a free report that will outline what debt settlement is all about, and if it is the right choice for you.
Source: www.articlecity.com